Establishing best practices
At Russell Investments, our experience has enabled us to provide recommendations on overarching best practices for establishing a responsible investing framework. We believe there are five key steps:
1) EDUCATE YOUR TEAM
The first critical step is educating yourself and your board or investment committee on the meaning of responsible investing. It’s important to be aware of the latest topics and trends, and become familiar with the different definitions and variations. Climate-related risk and opportunities is one such area where there has been a steady flow of new industry jargon. One now needs to be familiar with the following concepts and terminology: Net Zero Investing, Paris Agreement, The Intergovernmental Panel on Climate Change (IPCC) report, and the Task Force on Climate-related Financial Disclosures (TCFD) reporting. There are also multiple ways of calculating a portfolio’s carbon footprint, for example, weighted average carbon intensity, total carbon emissions and carbon intensity, just to name a few. Each of these methods has strengths and weaknesses that need to be carefully considered.
2) DEFINE YOUR BELIEFS
This critical step is to define - and align - your team’s responsible investing beliefs and desired outcomes, as different organisations may define ‘responsible investment’ in different ways. Whether you are targeting responsible investment to align with stakeholder values, mitigate risk, or comply with regulation, you want to create a robust responsible investing framework with real integrity and impact. A simple and effective way to reach a consensus is to conduct a beliefs survey. Schemes may also want to consider collating underlying views from their members. We are observing an increasing number of schemes defining a responsible investing policy document to clearly articulate their beliefs, along with explicitly stating what these beliefs mean in practice. Furthermore, there are a growing number of investors looking to set net zero targets for their assets.
3) IMPLEMENT YOUR BELIEFS
Once your beliefs and goals have been defined and documented, you can begin to discuss implementation approaches. There are multiple approaches by which ESG considerations and beliefs can be integrated into the portfolio management process. These include (and are not limited to) exclusions or negative screening, positive selection, active ownership, impact investing, thematic investing, sustainable investing and ESG integration. Each approach has its own degree of effectiveness and impact in supporting ESG principles, and you may choose to utilise one or multiple approaches. There are a growing number of investment solutions to fit in with almost every flavour of belief so expect to
spend a decent amount of time identifying the most suitable option. We also believe that with more quantitative data becoming widely available, ESG considerations should be considered as part of the strategic asset allocation process.
Finally, when implementing your beliefs there is also the choice between active and passive investing. We believe in a combination depending on the asset class as well as your fee budget and risk tolerance. While it is possible to access exclusions through passive investment strategies such as ESG index tracker funds, we believe that ESG integration fits well with an active management approach for the following reasons:
- ESG risks are not adequately priced into the market. With ESG risks priced inadequately, there are good opportunities for active managers to generate alpha in ESG equity strategies.
- More broadly speaking, robust ESG management by companies gives a good indication of overall quality and helps identify the companies most likely to have successful long-term business models. This helps managers pick stocks that deliver performance over the long term with lower levels of volatility.
- Active management also makes better use of the power of engagement and stewardship, and holds greater weight when voting. On the other hand, passive investing replaces this human element with a benchmark-driven approach, which cannot be matched entirely to a client’s responsible investing beliefs.
4) SET UP A REPORTING FRAMEWORK
A crucial part of any successful responsible investing framework is having a clear reporting framework in place so you can monitor and measure how well your ESG policies are implemented within your investment portfolio. Reporting in line with the TCFD will soon be mandatory for large pension schemes in the UK and schemes of all sizes should prepare for this to reflect best practice principles in climate risk reporting.
5) COMMUNICATE AND COLLABORATE
On top of your reporting framework, you will need a solid plan to effectively communicate your efforts to your stakeholders and maintain stakeholder confidence. Additionally, you may want to seek out and collaborate with organisations that share your responsible investing beliefs. We believe in playing an active role through our partnerships with external organisations promoting the inclusion of sustainability in investment processes, such as the Principles for Responsible Investment (PRI), Climate Action100, Institutional Investors Group on Climate Change (IIGCC), Carbon Disclosure Project (CDP) and the TCFD.
For Professional Clients Only.
This is not a marketing document. Unless otherwise specified, Russell Investments is the source of all data. All information contained in this material is current at the time of issue and, to the best of our knowledge, accurate. Any opinion expressed is that of Russell Investments, is not a statement of fact, is subject to change and does not constitute investment advice.
While Russell Investments considers ESG as part of our business and investment approach, our products may not necessarily be classified as ESG focused (i.e. Article 8 or 9 products), under current regulatory criteria. It is important to note that, unless specified, the products referenced in this material should not be assumed to be classified as ESG products (Article 8 or 9 products under EU regulation).
Issued by Russell Investments Limited. Company No. 02086230. Registered in England and Wales with registered office at: Rex House, 10 Regent Street, London SW1Y 4PE. Telephone +44 (0)20 7024 6000. Authorised and regulated by the Financial Conduct Authority, 12 Endeavour Square, London, E20 1JN.
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This article was featured in Pensions Aspects magazine July/Aug edition.
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