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Investing responsibly: Investors have power

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Summary

A new generation is using their power as investors to mitigate risk and improve long-term returns by encouraging companies to be good corporate citizens.

8 min read

Responsible investing is about more than doing good. It’s about securing long-term investment performance and mitigating risks by looking at investment, on more than just financial grounds. It focuses on three key areas that can make a difference to a company in the long term: environmental impact, social impact and corporate governance (commonly abbreviated as ESG).

It’s based on sound evidence. A meta-study conducted by the University of Oxford in 2014 concluded that 88% of research papers found a positive link between good corporate sustainability practices and stock performance.[1] Research conducted by MSCI in 2018 showed that companies with improving ESG credentials outperformed by 14.4% in emerging markets and 5.2% in developed markets on average over five years.[2]

Assets invested according to responsible investment principles have grown considerably over the last decade. Since its launch in 2006, over 1,900 companies have signed up to the Principles of Responsible Investment, accounting for nearly US$90 trillion in assets under management.[3]

 

The opportunity to make positive change

As well as the investment case, the rise of responsible investment has been fuelled by the increasing awareness of the critical challenges the world is facing. The cost of implementing international agreements such as the Paris Climate Agreement or the United Nations’ 17 Sustainable Development Goals is estimated at over US$100 trillion by the Council on Foreign Relations in research published in 2015. [4]

Responsible investing has mobilised a significant amount of private capital to address these challenges. With some governments showing reluctance to lead the way, the private sector is taking the initiative, particularly where there is a direct impact on the interests of companies themselves. The corporate world can’t simply rely on governments to protect the social and material resources they rely on to operate.

 

Engagement works

Strategies based on screening – excluding companies, countries, sectors or stocks that fail on certain criteria, while favouring those that meet them – have been a starting point for many. But, more and more asset managers are voting at shareholder meetings and engaging with company management to influence corporate behaviour.

One of the main headwinds to greater and deeper change remains the conflicting demands of short-term business considerations and long-term sustainable performance. Traditionally, financial institutions have focused on short-term performance measures, such as share price or 12-month corporate profit. Incentives for management (such as stock options) have been designed to reflect this, leading to a short-term bias in corporate decision making.

This is why we believe change should be driven, or at least encouraged, by asset owners and the asset management industry. This is best achieved through strong and continual engagement with the companies they invest in, to properly reflect the long-term interests of their clients.

 

New investment opportunities

The push to improve companies could create new investment opportunities by encouraging innovation and disruption across diverse sectors. We see the potential for responsible investing to become even more pervasive, which could have the effect of multiplying the benefits it has already had on industries and sectors such as oil and mining companies.

Taking demographics as an example of a long-term challenge, the associated increased demand for food, water and energy will drive the need for innovative improvements in infrastructure. Clean water, new ways to generate and distribute energy, improved health care, and more efficient transportation provide abundant opportunities for investors with a responsible investment focus.

Achieving gender equality, one of the UN’s Sustainable Development Goals, could also have a profound impact. The Organisation for Economic Co-Operation and Development estimates that the growth impact of reaching gender equality could be as much as 6% of the GDP in advanced economies by 2030. In addition, as women make up an increasing part of the global workforce, products and services that seek to capitalise on women’s increasing share of global wealth represent another opportunity for investors.

[1] From the Stockholder to the Stakeholder, Smith School of Enterprise and Environment, University of Oxford/Arabesque Partners, September 2014

[2] How Markets Price ESG, MSCI, November 2018

[3] Principles for Responsible Investment Annual Report, 2018

[4] https://www.cfr.org/backgrounder/sustainable-development-goals

“Responsible investment fits naturally with our long-term investment horizon and our focus on quality companies that offer sustainable growth.”

Where is responsible investment generating investment opportunities? 

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Responsible investing at Coutts

Responsible investment fits naturally with our long-term investment horizons and our focus on quality companies that offer sustainable growth. Coutts is a signatory of the Principles of Responsible Investment and complies with the UK Stewardship Code with a Tier 1 ranking from the Financial Reporting Council.

 

Encouraging better performance in the companies we invest in

We encourage responsible behaviour from the companies in which we hold direct public equity holdings, through voting at shareholder meetings and engaging directly with them to encourage changes in policy. We carry out this engagement with the support of Hermes EOS, as we believe this is more effective than public engagement. Accordingly, we don’t typically disclose the names of companies with which we engage.

For 2019, we’re focusing our engagement efforts on:

  • Environment: climate change, natural resource efficiency, pollution.
  • Social: conduct, culture and ethics, human capital management, human rights.
  • Governance: shareholder protection and rights, executive remuneration’ board composition and effectiveness.
  • Strategy, risk and communication: business purpose and strategy, corporate reporting, risk management.

Responsible investment and third-party managers

Responsible investment is just one factor in our due diligence process when we’re selecting fund managers. Before investing, we assess their approach to responsible investment and stewardship, and the degree to which it adheres to Coutts approach and to Coutts Responsible Ownership Principles. Over 90% of our third-party fund holdings are managed by companies that are signatories of the Principles of Responsible Investment and around 70% of UK fund managers are also signatories of the UK Stewardship Code.

 

Responsible investment in action

  • Limiting the effects of pollution

A company’s ability to limit its greenhouse gas emissions is important for achieving the goals of the 2015 Paris Agreement on climate change, and for its competitiveness in the transition to a low-carbon environment. Alongside other investors, through Hermes EOS, we have been engaging with a large greenhouse gas (GHG) emitter to improve the management and disclosure of climate change-related actions. This has led the company to publish specific and ambitious GHG emission targets for the first time and outline a very detailed plan for the transition to a low-carbon economy. This tangible and material outcome showed a strong and clear path for limiting emissions in the future.

  • Working towards gender parity on company boards

Gender diversity is the most straightforward and visible entry point to encourage strengthening of the board and sourcing talent from beyond the traditional pool of candidates, thus facilitating greater diversity overall. Hermes EOS acted to improve gender representation on company boards of FTSE 350 companies in 2017 by announcing its intention to recommend voting against board appointments in companies that fell significantly short of the 25% minimum target set for 2015 and who had no credible plans to reach the 33% goal for 2020. In line with this, they recommended voting against the re-election of the chair of the nominations committee of an international mining company. As a result, several of the targeted companies made additional appointments of female directors.

These results demonstrate the effectiveness of engagement strategies.

 

Our voting and engagement activity

In line with our responsibilities as signatories of the UK Stewardship Code, we report on our voting and engagement activity every quarter.

Our voting and engagement activity in the 12 months to 30 September 2018 is summarised below.

 

 

Key Takeaways

Share ownership gives investors an element of control over what companies do. Increasingly they are using this to encourage policies that deliver long-term sustainable returns and discourage short-term thinking. At Coutts, responsible investing sits comfortably beside our long-term investment focus. We engage with the companies we invest in to encourage good practice and use the voting powers that come with share ownership to promote sustainable practices.

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