Rob Lake’s recent article in RI provides an incisive diagnosis of what currently ails the sustainability investment “movement” and his recommended cures certainly give pause for thought. Lake’s insights and perspective are unique in that he has worked for a major asset owner, a substantial asset manager, and since 2011, for the pre-eminent global, investor-focused, sustainability NGO. But does he go far enough? What I propose to do here is to take up the torch from his piece and focus on some practical steps which I believe ought to be taken to bridge the enormous chasm which currently remains between the diagnosis on the one hand and the recommended remedies on the other. In other words, how can we actually get from the former to the latter in the circumstances in which we find ourselves post-crash in mid- 2012?
My suggestions essentially fall into two categories: firstly: culture, and secondly: terminology.
My initial set of prescriptions fall under the rubric of “cultural”, and I will summarize five of them here briefly:
- Treat the problem for what it is: the Mother of All Behavioral Finance Problems. Surely to God this isn’t really about investment risk at all (despite protestations to the contrary); it’s about career risk. Let’s call a spade a spade; the #1 reason for the pervasive non-adoption of sustainability-driven investment is because of the career risk it creates for asset managers, consultants, and trustees. The Principles for Responsible Investment (PRI) community itself needs to be brutally honest about this or it will risk becoming “conventional” to simply please paying signatories. Sadly, as Lord Keynes observed long ago, it seems that it is much better to fail conventionally………* Let’s restore the investment food chain to its primordial, rightful state, where the owners of capital call the strategic shots on how they want their money invested, and the service providers actually do precisely that – provide services – not dictate both the objectives and the rules of engagement. Let’s end the “tyranny of the expert”, where asset managers and consultants intimidate their clients into swallowing the often ill-considered, un-researched shibboleths, prescriptions, and techno-babble which too often pass for investment expertise. Have the largest asset owners dug deep since 2008 and asked the hard questions post-financial crash in terms of how so much expensive advice from the “best of the best” in the asset management and consulting world could see them holding huge swathes of worthless financial services paper and the toxic products generated by the investment banks and other financial institutions? The short answer is no: asset owners have not asked the right questions to a satisfactory degree, and it’s past time they did.
- If we’re going to put the burden of leadership and responsibility onto fund trustees, then let’s equip them for the job –now! I can think of few more productive uses of time and financial resources than those devoted to trustee training and education, and it remains a woefully under-invested area at present. And, for God’s sake, let’s not leave Count Dracula in charge of the blood bank here; nothing will be achieved if the new “training” is done by the same incumbent “experts” whose misguided orthodoxies got us into this mess in the first place!
- Let’s change the rules of the game to at least allow (if not actually encourage ) some genuine innovation in the sustainable investment space. By definition, innovative ideas and strategies cannot have the culturally obligatory 3-year track record. It can’t be done. So how can any innovative approach get any traction in the real world? Some forward-looking asset owners have established “emerging managers“ programs for that precise purpose, and they are to be commended. But how about thinking a bit bigger? Why couldn’t say, ten of the most truly committed PRI signatories come together to seed a $200m “PRI Innovation Fund”? The contributions from each would literally represent a rounding error in terms of their AUMs, and they could even retain the ability to opt in or out of any particular strategy or project. The most important rule of such a fund would be that there be no hard-and-fast rules: no minimum track record, no minimum AUMs, just a sufficiently compelling idea and a credible team to execute it. The new fund would be explicitly conceived and promoted as an innovation fund, designed specifically to catalyze new approaches. The occasional failure would even be tolerated, as the inevitable price of experimentation. (And anyway, these experimental strategies would likely have equal or superior success rates to today’s conventional funds, where 60% under-performance rates – and more – are absolutely commonplace, and seemingly perfectly acceptable.)* Let’s get over our narrow obsession with ESG. I’m sure one reason that mainstream skeptics reject the sustainability gospel is their disinclination to accept that E,S, and G, important as they are, comprise the alpha and omega of “non-traditional” investment factors, the way we often imply they do. What about other critical components of 21st century corporate sustainability, like agility, adaptability, responsiveness, and innovation capacity? Just because they’re even harder to analyze and quantify doesn’t mean we shouldn’t try.
Turning now to terminology, I would propose an immediate ban on the use of the term “responsible”, with severe penalties for non-compliance. If there is one thing that continues to preserve and fortify the ongoing barrier between “mainstream” investors and the sustainability crowd, it has got to be that word. In making this proposal, I fully recognize the massive inconvenience it would cause for the legions of commercial service providers who are currently trying to pour the old wine of traditional socially responsible investment into the spiffy new bottles of the more mainstream-sounding “responsible investment”. This may well be commercially clever, but it is both disingenuous and profoundly unhelpful to the task of bringing some clarity to the debate.
Why, you ask, should we impose a Taliban-style ban on such an apparently innocuous word as ‘responsible’? Well, because it immediately and unnecessarily
provokes those very “mainstreamers” whom we are attempting to win over. It creates an instant dichotomy between responsible investment, as practised by us, the chosen and enlightened , and…well, I guess it must be irresponsible investment that the other 90% + are engaged in. It connotes an air of moral superiority and smugness, if not an outright monopoly on wisdom and righteousness which can only antagonize the unwashed. Let’s eliminate the normative, quietly hectoring approach and promote enlightened self-interest instead. Personally, I much prefer the term “Strategically Aware Investment”, an approach which starts by simply but explicitly acknowledging the powerful environmental, social, and other secular global megatrends which are, even as we speak, radically redefining the competitive environment of the very companies in which investors and fiduciaries are considering placing other people’s assets. I believe that investors today face a stark, binary choice: either acknowledge which century we’re living in, and make the profound changes which that requires to their investment beliefs, models, sources of research, and investment processes, or …. don’t. Sadly, mostinvestors seem to have, unconsciously and by default, opted not to do so. The inconvenient truth is that the vast majority of professional investors have made no truly systematic or fundamental responses to the tectonic changes they see around themselves every day; their methods and models have not changed in any fundamental way for 20 years or more.
I’m not saying that making major adjustments to “tried and true” approaches is easy, but failing to do so creates a significant and growing information gap and therefore performance disadvantage for both investors and their clients. So it’s really not about morals or responsibility at all; it’s about generating better risk-adjusted returns for their clients, and better bonuses for themselves. Well, there you have it: a guaranteed and foolproof roadmap for getting from here to there, for bridging the chasm between where we are and where we need to get. (In my next submission to RI, I plan to unveil a sure-fire, 10-day solution to the Arab-Israeli impasse …… just kidding.) Well, actually, my prescriptions for sustainable investment might not be entirely foolproof, and they certainly aren’t exhaustive. That’s what the rest of the RI readership is for!
Matthew Kiernan is Chief Executive of Inflection Point Capital Management