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Fact or fiction: SI is only about green issues relevant for idealists

Fact or fiction: SI is only about green issues relevant for idealists

22-01-2018 | インサイト

Sustainability investing has come a long way in recent decades – though some people still think it’s only about green issues. Others believe it’s only relevant to a handful of idealists, led by pressure groups.

  • Masja Zandbergen
    Masja
    Zandbergen
    Head of ESG integration
  • Guido Moret
    Guido
    Moret
    Active Ownership Specialist

Speed read

  • Sustainability made headlines as a green crusade in the 1960s
  • It’s now a trillion-dollar investment process focused on ESG
  • Wider projects include the UN’s Sustainable Development Goals

Both myths persist because one of the origins of modern sustainability was indeed in the ‘save the world’ campaigns of the 1960s. Organizations such as Friends of the Earth, founded in 1969, lobbied hard to stop some of the plainly unsustainable practices of that era, from deforestation (which sadly is still continuing) to pollution.

There were some major environmental successes in the 1980s, with a ban on dangerous DDT pesticides and the Montreal Protocol for phasing out the use of CFC gases after scientists warned that aerosols were destroying the ozone layer. In the 21st century, the interpretation of sustainability has greatly widened, particularly in the scale by which it has been adopted as a mainstream practice by governments, corporations and investors. It now involves people from all walks of life – not just campaigners – and accounts for trillions of dollars’ worth of investment.

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Uniting the Nations

This can be seen in the United Nations’ list of 17 Sustainable Development Goals (SDGs) which target wider issues that make life better for everyone.1 Launched in 2015, the goals include fundamentals such as providing clean water, a decent standard of education, affordable health care and equal rights. The goals have now been adopted by 193 countries.

Business plays a key role because the UN specifically invited corporates and financial institutions to contribute towards achieving the goals within 15 years. And it is not only about big business, or those sectors directly accused of unsustainability, such as oil companies or plastics manufacturers. It is simply about doing good business – for all companies.

For example, banks should focus on having the right loans at the right rates, having the highest ethical standards and a clearly defined risk culture, particularly after the Global Financial Crisis. Health care companies should focus on innovation, human capital and fair pricing models for essential drugs. And food and beverage processors should attempt to produce healthier products, such as by removing sugar.2 

For investors, many pension funds and asset managers, including Robeco and RobecoSAM, have taken up the challenge of meeting the SDGs, incorporating objectives to meet as many of these goals as is practicable into the investment process. The concept of using free market capitalism as a means of improving global living standards was laid down in an earlier UN initiative, the Principles for Responsible Investment. Launched in 2006, the PRI has six principles that commit investors to using environmental, social and governance criteria (ESG) in their processes as far as possible. Robeco and RobecoSAM were among the first to join, and the PRI now has 1,800 signatories.3

The S and G in ESG

The widespread adoption of ESG has played its own part. It has made companies and their shareholders aware that sustainability is financially material – it can directly affect company results and share prices. As ESG adoption has grown, sustainability has been shown to be a smarter way of making money, rather than some sort of idealism. And while the ‘E’ does indeed incorporate the green issues that investors still focus on – and now treat as a business opportunity in areas such as renewable energy – much more emphasis is now on the ‘S’ and ‘G’ than has been in the past.

Embracing social is not just a feel-good factor; research bears out the idea that happy workers are productive workers, and therefore it is a financially material issue. A 2011 study by the Wharton School at the University of Pennsylvania analyzed the relationship between employee satisfaction and long-term equity market returns. It showed that a value-weighted portfolio of the ‘100 best companies to work for in America’ had stock returns that were on average 3.5% a year higher than the main market benchmark between 1984 and 2009, and 2.1% above their relevant industry benchmarks.4

The results also showed that these companies also exhibited significantly more positive earnings surprises than those not on the list. The researchers came to three main conclusions: that employee satisfaction is positively correlated with shareholder returns and need not represent managerial slack; that the stock market does not fully value intangibles such as human capital; and that screening for highly social companies to place in portfolios may therefore improve investment returns.

Better governance also works

As with human factors, the idea that better corporate governance can enhance share prices has also been borne out by research by the Wharton School, in conjunction with Harvard University. Using the incidence of 24 governance rules that prevailed in 2003, the researchers constructed a ‘Governance Index’ as a means of assessing the level of shareholder rights at about 1,500 large companies during the 1990s. It then created an investment strategy that bought firms in the lowest decile of the index – those which offered its shareholders the strongest rights – and sold firms in the highest decile of the index (those with the weakest rights).5

It found that companies with stronger shareholder rights had higher market values, higher sales growth and profits, lower capital expenditures, and made fewer corporate acquisitions. It concluded that had such an investment strategy been real, it would have earned abnormal returns of 8.5% a year during the sample period.

So, it’s no longer just about green idealists. It’s now about the whole ESG spectrum, including the higher returns that can be made from implementing social and governance factors as well as environmental, and it’s most definitely about everyone.

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1The full list of the United Nations’ SDGs is available here http://www.un.org/sustainabledevelopment/sustainable-development-goals/
2For Robeco’s campaigns for healthier food, see Food & Health – Benefiting from the trend towards a healthier lifestyle
3For more details about the United Nations PRI, go here https://www.unpri.org/about
4 Edmans, Alex, Does the Stock Market Fully Value Intangibles? Employee Satisfaction and Equity Prices (January 20, 2010). Journal of Financial Economics 101(3), 621-640, September 2011. Available at SSRN: https://ssrn.com/abstract=985735
5 Gompers, Paul A. and Ishii, Joy L. and Metrick, Andrew, Corporate Governance and Equity Prices. Quarterly Journal of Economics, Vol. 118, No. 1, pp. 107-155, February 2003. Available at SSRN: https://ssrn.com/abstract=278920 or http://dx.doi.org/10.2139/ssrn.278920

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