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Integrating ESG and carbon metrics alongside active engagements

Integrating ESG and carbon metrics alongside active engagements

29-11-2021 | Insight

The 2021 United Nations’ COP26, took place early November. With our New World Financials and our FinTech funds both classified under Article 8 of the EU’s sustainability regulations (SFDR), it is useful to take a moment to discuss the impact characteristics of our funds and how we are identifying the opportunities and tackling the challenges for our strategies.

  • Patrick  Lemmens
    Patrick
    Lemmens
    Portfolio Manager
  • Koos  Burema
    Koos
    Burema
    Portfolio Manager
  • Michiel  van Voorst
    Michiel
    van Voorst
    Fund Manager Equities

Speed read

  • Investing in the financial sector can contribute positively to the SDGs 
  • We integrate ESG analysis throughout the investment process
  • Climate transition of financials is our latest engagement theme

Clearly, the most critical of these challenges is related to greenhouse gas emissions, with financial companies starting to report on the carbon metrics of their loan and investment portfolios. With regard to these challenges and opportunities, we also discuss how we systemically integrate ESG in the investment process and engage with companies.

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Three megatrends that are shaping a sustainable world

Our investment philosophy has been to identify key enablers and structural winners with pure exposure to the trends and themes that drive future returns. We believe the three megatrends we have identified – namely, transforming technology, changing socio-demographics, and preserving the Earth can promote positive environmental and social characteristics – while still offering significant return potential.

The ESG integration framework detailed below, that is part of our investment process, generally results in the fact that the financial institutions and fintech companies that have a positive contribution to some of the UN’s Sustainable Development Goals (SDGs) – particularly SDGs 1, 8 and 9 – tend to have a higher change to be included in the portfolio.

Figure 1: Portfolio impact on individual SDGs: FinTech

Portfolio impact on individual SDGs: New World Financials
Source: Robeco. Data as of September 2021. The graphs depict the portfolio weight allocated to companies contributing to each individual SDG.

For example, life insurance companies support people living in poverty or in vulnerable situations (SDG 1.5). Likewise, fintech companies are stimulating financial inclusion by serving clients that do not have a bank account, or that have been poorly served by traditional banks. Finally, banks are also improving financial inclusion in emerging markets via microfinancing or mortgage lending.

The World Bank estimated that 31% of the world’s adult population, or 1.7 billion people, were still unbanked in 2017. Meanwhile, a more recent report from the US Federal Reserve estimated that 18% to 19% of the US’ adult population were unbanked or underbanked, with a concentration in lower income, less educated demographic groups.

Another example of the challenges faced by financial institutions is related to the considerable amount of loan book exposure to carbon intensive industries, like oil & gas, transportation, or manufacturing, some banks have. However, we are not only seeing banks reporting on their exposures, but several have also made net zero commitments by 2050.

The net green financing needs for global banks will be approximately USD 1 to 3 trillion per annum for 2021-2050

Clearly, this will be a painful transition given the current carbon exposures that banks have, but there is also a large green financing opportunity ahead. The net green financing needs for global banks will be approximately USD 1 to 3 trillion per annum for 2021-2050. The large range is driven by differences in determining the ‘brown’ financing needs, while estimating the ‘green’ financing needs also depends on the scenario.

Robeco as sustainable investing leader

The key investment belief within Robeco is that ESG integration leads to better-informed investment decisions. This has been embedded in our culture, with proprietary ESG research and an Active Ownership team making a tangible impact. Consequently, 95% of Robeco’s funds are classified as Article 8 or 9 under SFDR. 

What makes Robeco unique is the close cooperation between the SI Center of Expertise and investment teams. In practice, this means that we share company meetings and have numerous research discussions with both SI Research analysts and Engagement specialists, as well as having frequent conversations with our Voting team on shareholder meeting’s resolutions.

We address sustainability issues both in our ESG integration and through our engagement program. These interactions enable us to embed meaningful ESG analysis in all our investment cases. Our three-step process starts with identifying the most material ESG issues for a specific company. 

Corporate governance and climate risk are material ESG factors for all companies, though the factor sustainable finance (opportunities) is more relevant for banks and insurers, while the factor data privacy & security is more heavily emphasized when assessing fintech companies. Our in-house developed Company Dashboard tool helps us get started and gain a quick overview of any pressing ESG issues.

The second step of the process is analyzing the impact of the most material ESG factors by using a combination of in-house research and data sets like the Company Dashboard and SI Research analyst input, and external resources like Sustainalytics, MSCI and Glass Lewis. In the final step, we determine the impact that the ESG analysis has on our valuation assessment and on our portfolio weights.

Robeco has a history of creating value and impact by improving the conduct of companies we invest in with a structured approach to engagement

Robeco also has a history of creating value and impact by improving the conduct of companies we invest in with a structured approach to engagement. For instance, together with our Active Ownership team, we have run engagements on culture & risk governance in the banking sector, cybersecurity, and the social impact of artificial intelligence, all covering a variety of fintech and financials companies.

Climate Transition of Financial Institutions is the engagement theme we started this year. We target ten financial institutions with which we engage. We will focus on four pillars of the Task force on Climate-related Financial Disclosures (TCFD): governance, strategy, risk management and metrics & targets.

Via discussions with company management and, if needed, via shareholder meetings, we will influence financials to improve their disclosure on carbon-intensive industries, put in place strong governance provisions, and consider climate-related risks and opportunities throughout the business including risk management and climate-related metrics.

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