RI Interview: CalPERS’ Anne Simpson on new strategic plan to integrate sustainability (Part 2)

The second instalment of our wide-ranging interview as leading investor integrates ESG

The $307bn California Public Employees Retirement System (CalPERS) this week announced a sweeping review of how it approaches sustainability. Among the changes was Anne Simpson changing roles from Investment Director, Global Governance to the new role of Investment Director, Sustainability. This is the second part of a wide-ranging interview with Simpson. The first part is available here via this link.

In addition to carbon emissions, water risk, diversity, income inequality, a further 12 issues from the Global Governance Principles are up for review, including supply chain.

CalPERS has a four-pronged approach to making all of this happen: Integration/Advocacy/Engagement/Partnerships. Integration is the first step because it will determine how the fund takes on board these ESG issues in the deployment of its capital.

“We are going to look at all our asset classes, and, yes, the issues are always relevant, but how?” qualified Simpson. The Sustainable Investments group will be reporting to the CalPERS board in December on a pilot project of integrating sustainable investment – reporting, monitoring, performance testing.

“We now have centralised management of ESG-think, it’s officially out of the sidelines and into the mainstream,” said Simpson.

“We have established a sub-committee of the overall investment strategy group dealing with sustainability; it’s what people used to call the ‘Good Causes Unit’,” quipped Simpson, “but it’s now a strategy hub for the whole portfolio, with representatives from all asset classes to ensure we are harnessing the total fund. It’s a think tank on strategy on SI, and we are beefing up our resources with an additional $2m spent on new staff positions.”

Moving to the investment teams themselves, Simpson said: “We are also asking all our fund managers to report on their processes surrounding these issues, and they can begin building their knowledge of what to think about using the PRI list of indicative issues, it’s a good starter.” The fund will also be tracking the financial performance of all these “new” investment decisions, regarding carbon reduction, particularly in the energy sector, and diversity, using all sorts of financial measures – return on capital, economic value added – that it has access to internally. Above all it is about investment growth.

Advocacy, the second prong of the approach, is about raising CalPERS’ voice and ensuring its influence with policy makers and regulators in Washington DC. Engagement, while similar, “is a difference in audience,” said Simpson.“What we do with our position of ownership is engage on pay/climate risk/board diversity. We no longer have our public focus list but are much more active in filing resolutions. It always starts with discussions, but we must make companies aware that we speak softly and carry a big stick.”

When it comes to partnership, there are three slides full of them in the presentation, everything from the Council of Institutional (CII) to the Sustainability Standards Board, to the International Corporate Governance Network to the UN Global Compact, to Ceres and the Principles for Responsible Investment.

Simpson stressed again that this is not a special or ad hoc project, but central to CalPERS’ investment decision making. “We are institutionalising SI with a special unit in each asset class and integrated in the decision-making structure.” The SI group will, within the five to 30-year plan, be conducting a two-year check-in “because markets are so volatile. It will be a progress report with any needed adjustments discussed and some fine tuning,” said Simpson. Regular reports on core activities of the SI group will go to the Investment Committee.

On divestment, says Simpson, “Engagement prevents divestment. The fund is in the process of trying to force companies to adopt ESG Key Performance Indicators (KPIs) that Simpson refers to as “rarer than hens’ teeth”, and the outcome would be a substantial increase in carbon risk and pollution reporting. “These are bold targets, but necessary,” said Simpson.

“We have had a lot of discussions about the right approach to our portfolio’s carbon risk, but if we tilt away from the big emitters by divesting we can’t ensure they will change their strategies.” Simpson referred to the three options available. Companies can ignore the problem and then they will “take us over the cliff with them”, there is the “Peabody Option”, ignore it and go bankrupt, or there is strategic change so that a company’s business plan will align with COP21 targets and become carbon neutral, not just through a switch of energy source but through a variety of options such as carbon capture. “It has to be a managed transition,” said Simpson, “it’s the difference between washing your hands of the problem or rolling up your sleeves and getting your hands dirty.”

While this new strategy is about growing the fund, it is also all about risk.

“Financial market risk explains our advocacy agenda to promote safety and soundness in financial markets; our Investment Beliefs state that risk for CalPERS is multifaceted and not fully captured by measures such as volatility or tracking error. To demonstrate this we call out climate change, demographics and natural resource scarcity as examples.

In addition, it is important to note that the development of the Investment Beliefs has put a framework around the whole fund which integrates sustainability. Prior to developing the strategy, the board formed an ad hoc committee to spend nine months reviewing every section of our Global Principles.” The Global Principles now reflect the Investment Beliefs and are applied consistently across all asset classes.

Simpson also gave examples of the way things are changing, even in the US. Energy company NRG, for example, has in place a 25-year plan to shift from fossil fuels to renewables, and the transition carefully notes that this will mean a considerable amount of training in order to retain employees.

A lot of retail companies, including Walmart, because they didn’t sign up to the Bangladesh Accord, are being heavily engaged with to improve their supply chain disclosure. “Walmart insisted that it did not contract with the Dhaka shirt factory [site of the Rana Plaza disaster in 2013], but then Walmart labels were found in the remains of the fire,” said Simpson.Occidental’s 49.9% shareholder support for the US ‘Aiming for A’ proposal and the high levels of abstention showed that there is major support for these issues, “the abstentions are a marker of concern from shareholders who also want to indicate that they don’t want to remove the management team,” commented Simpson.

“There is a sea change in the US. Industry is not an immovable object anymore, just look at proxy access. Capital will have a long-term influence.”

But she reminded me that not only did Exxon and others throw management’s weight behind the status quo and against climate risk reporting, Exxon stood by its policy of not allowing directors to speak to investors. “The bunker mentality indeed,” as Simpson describes it.

This demonstrates the need for proxy access, she added, which, working with New York City, CalPERS won at Exxon. Stand by for a climate competent director nomination.