Investment consultants advise on the investment practices of trillions of dollars worldwide. They are a recognised source of authority and knowledge.
However, the PRI’s recent Investment Consultant Services Review finds that most consultants and their asset owner clients are failing to consider environmental, social and governance (ESG) issues in investment practice – despite a growing evidence base that demonstrates the financial materiality of ESG issues to portfolio value.
There currently seems little commercial imperative for investment consultants to extend the coverage of ESG integrated services among their clients. Nor do we see pension schemes demanding ESG integrated services from their consultants. In too many cases, consultants and their clients simply don’t talk about ESG issues.
Neglecting ESG issues can lead to asset owners mispricing risk and making poor investment decisions. This is why effectively managing ESG issues is a core part of the fiduciary duties owed by asset owners to their beneficiaries.
“Using the skills of the Actuarial Profession will be instrumental” – Anil Shenoy, Janus Henderson Investors
Investment consultants need to ensure that their asset owner clients navigate these challenges effectively if they are to retain their position as trusted advisers and if they are to grow and develop their future businesses, for example, in fiduciary management.
The PRI believes the full suite of investment consultants’ service delivery should be reviewed from an ESG perspective. Our aim is that this research drives a deeper discussion in the industry about the inclusion of ESG issues as a standard part of consulting advice and which new or additional ESG integrated investment services are needed.
Based on interviews with 22 investment consulting firms and industry experts primarily in the UK, US and Australia, as well as other data sources, the PRI found three barriers to taking ESG into consideration among consultants: market structure, industry practice, and policy and regulation.
The PRI has also supported efforts by AMNT, UKSIF, Client Earth and others to improve investment consultant service delivery. In September, 12 investment consultants with UK clients signed a statement organised by AMNT and UKSIF. The statement committed consultants to ensure clients are made aware of The Pensions Regulator’s guidance that pension schemes take into account ESG factors where they are financially material.And in November, law firm ClientEarth published research highlighting the legal risks for pension scheme advisers who fail to address climate change in their advice to clients.
The PRI will continue to review:
Investment strategies and beliefs – The way that consultants and their clients publish investment strategies and beliefs, implement investment beliefs throughout the organisation and include ESG performance as a standard agenda item at performance review meetings.
Asset allocation and portfolio construction – The way ESG risks and opportunities can be integrated into funding assumptions, asset allocation and portfolio construction, and how the service offering needs to evolve.
Fund ratings – Inclusion of ESG questions in due diligence questionnaires and assessment of responses. All clients should be presented with ESG fund options.
Reporting – Client reporting and inclusion of ESG performance reporting as standard.
Fiduciary management – Full incorporation of ESG issues in fiduciary management, including in stock or fund selection, stewardship and active ownership, voting and reporting. Potential new ESG integrated services to ensure provision of adequate ESG-related investment advice.
This shift is unlikely to occur without intervention. There are many barriers in market structure, industry practice, and policy and regulation that need to be overcome. Without addressing these barriers there will be little change in the advice provided by investment consultants.
Anil Shenoy, Head of UK Institutional Clients at Janus Henderson Investors, was interviewed for the report. Anil said: “Pension fund and insurance companies are long term investors and ESG issues (for example demographic and environmental) are also often long-term in nature. More work needs to be done on understanding and modelling these risks on assets and liabilities to help clients understand their potential impact. Using the skills of the Actuarial Profession will be instrumental.”
The PRI agrees, and sets out preliminary interventions that we will develop over the coming months. Broadly, these ideas are:
Improving incentives from asset owners – Enable small to medium and resource constrained asset owners to pool and clearly express their ESG service demands, develop quality standards and provide guidance on fiduciary management.
Further developing investment practices – Develop ESG investment beliefs, assist investment consultants to develop more advanced ESG integrated services, publish guidance for asset owners on how to identify, select, appoint and monitor investment consultants and enable industry-wide expertise on ESG issues.
Changing the policy and regulatory framework for investment consultants – Extend the PRI’s and UNEP FI’s fiduciary duty programme to investment consultants, work with professional bodies to incorporate ESG issues within regulation, support policy interventions to increase pension scheme pooling and put sustainability at the core of financial regulation.
Commenting on these ideas, Jennifer Anderson, Investment Manager at TPT Retirement Solutions and IIGCC Board Member, said: “Pension funds and otherasset owners need better guidance on what to ask investment consultants during selection and appointments exercises. I also think it would be interesting to look at the concept of smaller pension funds pooling their requirements on ESG issues, so they can better frame their expectations of investment consultants.”
“Asset owners need better guidance on what to ask investment consultants” – Jennifer Anderson, TPT Retirement Solutions
We are now undertaking a consultation of asset owners and investment consultants, with workshops in multiple countries, to develop and extend the solution set and we welcome feedback. We will identify, prioritise and sequence projects that we think will help to integrate ESG issues as a standard part of investment consultants’ services.
One consultant that we spoke to in Chicago told us that “once you get ESG, you don’t go back”. That’s why we’re confident that investment consultants can and will change, and will be in a position to fully integrate ESG issues as part of their service delivery.
Will Martindale is Director of Policy at the PRI