Sustainable investing: What is it and why is it on the rise?

Rob Bulpitt our consultant managing the role
Posting date: 31 March 2020
Sustainability has been a buzzword in every industry over the past few years, and the investment management market is no exception. With climate change at the centre of conversations happening all over the world, it’s no surprise that people are becoming increasingly interested in where they’re investing their money and what their capital is being used for. But what actually is sustainable investing and why is it becoming so popular within the pensions and investment industries? 

What is sustainable investing? 

Sustainable investing is also known as socially responsible investing and allows people to invest without compromising on their ethical values. It incorporates environmental, social and governance (ESG) factors and encourages companies, organisations and funds which seek to generate ESG impacts as well as financial returns. Sustainable investment can take into consideration factors such as climate change, clean energy, diversity and human rights, cyber security, business ethics and corruption.
There are a variety of ways to invest sustainability, with the three most prominent being exclusion, integration and impact. ‘Exclusion’ involves investors excluding companies and industries from their portfolio, ‘integration’ is about including environment, social and corporate governance factors into portfolios while ‘impact’ involves investing with the intention to generate environmental and social impacts as well as a financial return.  

Why has sustainable investing increased in popularity? 

Investors are increasingly looking for their money to have a purpose beyond pure profit. So far, Europe and the US have been leading the way in sustainable investment, with iShares reporting Europe’s sustainable investments had grown from US$8.8 trillion in 2012 to US$14.1 trillion in 2018. Regulations and cultural shifts have helped to drive this growth, according to Schroders, whose 2019 study shows that 60% of investors point to regulatory changes as motivating them to invest more sustainably. In addition, 60% of investors say that independent confirmation of fund sustainability would drive them to invest. 

Examples of regulatory change in action include the UK’s net-zero greenhouse gas emissions target and France’s Article 173, which states that investors must explain how they incorporate ESG into their investment strategies. 16% of investors are currently doing so sustainably, however just under a third of investors claim to be interested and would like to invest in this way. This shows that while investor actions are currently lagging behind their intentions, the interest in ESG-driven investment is high and we will likely see more of this in the future.  

Many investors are looking to the United Nations’ 17 Global Goals as a guideline for key performance indicators when considering their ESG portfolio, but motivating factors for investing sustainably can vary wildly. Regardless of the specific cause investors are supporting or change they’re looking to enact, the industry is largely accepting that impact investing can help to change our world for the better. And in addition to the social and environmental benefits, research suggests that sustainable investing can actually improve portfolio returns. One paper tracing ESG investing from the 1970s to 2015 revealed that 90% of sustainable investing matched or outperformed traditional investment approaches.  

Planet-friendly pensions 

While not every consumer has a portfolio of investments in the traditional sense, many UK savers have a pension. Of these, the majority want their pension funds to consider the impact they have on vulnerable people and the environment, according to Pensions Age. Interest in ESG pension investment is higher among women, millennials and those with investments worth more than £25,000. As the general public’s interest in ESG factors continues to increase, pension products must align themselves with these changing interests and ensure sustainable, ethical options are presented to workers.  

ESG in insurance 

ESG considerations within insurance are at a more advanced stage than within pensions, with the impact of climate change a long-held consideration for firms all over the world. The increased frequency and severity of major weather events in the past few years has led to more - and more costly - claims being lodged for insurers to handle, both in the UK and globally. Environmental factors impact property and casualty insurance claims in the short-term, and over the long term that can trickle down to health and sickness claims. That means insurance companies have a vested interest in climate change and should work to become part of the solution. But how? 

Responsible for investing significant levels of assets, the insurance industry should use these portfolios to fund greener initiatives that have ESG benefits. UK insurers currently hold more than £1.8 trillion in invested assets, but just 1.2% of these under management in the UK are invested in ESG assets. By investing in more sustainable solutions and taking money away from destructive practices, insurance companies minimise their own risk while contributing to an improved ESG landscape.  

There are a number of steps being taken to improve the insurance industry’s commitment to climate change and ESG, including the 2007 establishment of ClimateWise. ClimateWise is a global insurance industry initiative that sees signatories reporting on how they are promoting climate awareness and how they reduce the environment impact of their business. Meanwhile, the Prudential Regulation Authority (PRA) and the European Insurance and Occupational Pensions Authority have stated that they expect insurance companies to model and quantify the impact of climate change and other ESG factors. The PRA and the FCA have also established the Climate Financial Risk Forum, supporting the integration of climate-related factors into financial decision making.  

The next generation lead the way 

Millennials and Generation Z are widely regarded as being socially and environmentally conscious and as such are more likely to invest in alignment with their personal values. Millennial investors are nearly twice as likely to target funds which target environmental or social outcomes, with ESG factors a high priority for them when assessing investment opportunities. However, it’s not only the market’s youngest consumers who are considering the social and environmental impact of their investments. Generation X – people aged between 38 and 50 – are even more motivated to invest sustainably than millennials, with 61% of them always considering sustainability factors when selection investment products.  

Your next career step in investments 

It’s clear that the push towards creating more sustainable, ESG-driven investment opportunities is only going to intensify in the coming years. The means those working in insurance, asset management, wealth management and pensions must be prepared to pivot and adapt to new sustainable investment demands. Is your team ready? 

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