Environmental, social and governance – ESG. It’s an increasingly important part of investing and scheme regulatory requirements. With climate change at its core, the ‘E’ is often the most talked about. But as Gareth Trainor, Head of Investment Solutions at Standard Life explains, the S and G matter just as much. And, to achieve good member outcomes, it’s crucial to consider all three areas together.
With COP26 hitting the headlines at the end of 2021 we’re all used to hearing about the climate change agenda. Many companies, including Standard Life, have set net-zero targets for their own carbon emissions. So when it comes to ESG we’re hearing a lot about the ‘E,’ but social and governance issues are also important. In fact, all three factors together can have very real impact on the performance of the companies we invest in.
Integrating the E, S and G makes financial sense
Our research shows that some members are worried that responsible investing means sacrificing returns. We want to bust that myth. Taking ESG factors into consideration when making investment decisions is good practice. Some studies show that it can even improve returns, although it’s important to remember that the value of an investment can go down as well as up.
The social factor
Social and governance factors are perhaps less straightforward than environmental issues seem at first, but they still present financial risks and also matter to members.
We’ve carried out responsible investment research with our customers, and although climate change is their top issue – human rights and social concerns come next in line. Our customers care about the way the companies we invest in treat their employees and communities.
Negative stories can go viral on social media, leading to reputational damage or product boycotts – bad news for the company and its shareholders.
The reluctance of pension funds to invest in meal delivery firm Deliveroo is an example of the impact of ‘S’ factors on investment decisions. Deliveroo has a successful business model, good performance and potential for growth, but there is controversy over the way it treats employees. When pension fund managers decided to steer away from Deliveroo, close to £1 billion was wiped off the company’s valuation.
In the long term, that is a risk for this business, because investors aren’t just looking at performance and what a company is doing; through a responsible investing lens they’re also looking at how it’s done.
Governance is all about the way a company is run. Before making a decision to invest, we want to know that the company’s finances are up to scratch, that reporting is transparent and that shareholders are able to vote on important issues. We ask our investment managers to engage with the companies we invest in to really get to know the business and the way it’s led, this can influence positive change .
The Volkswagen emissions scandal is one example of a governance failure that wiped millions from a company’s share price. After the company admitted to cheating emissions testing, investors rushed to divest from the company and Volkswagen lost over $40 billion of its value in the two months after headlines hit.
It’s no surprise that a well-run company should also perform well financially. When a company has good governance it can respond to issues confidently, look after employees during a pandemic, deal with cyber security problems and lead the way with a diverse board. Without good governance a company can be vulnerable to fraud, failures in oversight and financial irregularities.
For me, an ESG strategy is only as good as a company’s ability to put it into practice. Governance is the key to that.
Keeping the band together
When it comes to ESG, I don’t think we should be singling out any factor for a solo career. I’m a big fan of keeping this band together – it allows you to see the bigger picture.
You can’t feel good about a windfarm investment if the manufacturing of the turbines uses forced labour, production methods that pollute local rivers, and the lack of good corporate governance means finances are not in order.
Responsible investment isn’t as easy as creating a climate fund and calling it a day. We want to see joined up investment portfolios, and that means looking at ESG as a whole and from a financial perspective.
ESG investment can help drive real change in society at the same time as delivering good outcomes for members, and I hope that we begin to see wider commitment across the board to tackle all three areas in the future.
Find out more
For more insights on responsible investing from Gareth, try
Aim to grow your pension pot and do good – is it really possible? or Climate change and your pension pot – discover the link
Behind the scenes, your Standard Life pension plan is encouraging companies to do better.
Find out how in Damian Irvine’s recent article.
Check out our Responsible Investment pages to see how we incorporate sustainability issues into our range of investment solutions.
Standard Life is part of Phoenix Group, you can find out more about our Group sustainability commitments on the Phoenix website.
The information here is based on our understanding in January 2022 and shouldn’t be regarded as financial advice. The value of investments can go down as well as up and may be worth less than what was paid in.