RI Interview: Ewald Stephan, CIO at sustainable German church investor Verka

“It’s time for all German church investors to stand up for what’s right”

Owing to their Christian mission, German churches seek to invest the money entrusted to them in a benevolent and responsible way. Until recently, however, they have been somewhat reticent about talking about it.

The reason is cultural. In Germany, it’s considered bad taste to discuss how much money you have or how much you earn. Church members have mostly had to take it on faith that the institutions they support with taxes and donations are doing the right thing with their money.

Yet times are changing, and as the responsible investment movement grows, German church investors are realising that they have to be heard publicly if they are to help make capitalism more humane and address urgent problems like climate change. And within that community, one institution stands out: Verka, a €2bn pension fund for employees of Germany’s Protestant Church.

Verka’s openness about its sustainable strategy was on display at a recent event in Frankfurt hosted by Oekom, the German ESG (environmental, social and governance) research firm.

Speaking on a panel about ESG integration, Verka Chief Investment Officer Ewald Stephan said his scheme wouldn’t mind losing “one or two percentage points in return” as long it was satisfied that the investment was consistent Verka’s sustainable strategy. Such candour is unusual and raised eyebrows at the event.

Like other insurance-type schemes in Germany though, Verka only invests in things that allow it to meet its guarantee on pension savings – currently at 3.3%. In a recent interview with Responsible Investor, Stephan explains what he meant with the remark about return versus sustainability. “We don’t invest in countries that have the death penalty or haven’t signed the Kyoto Protocol on reducing greenhouse gas emissions. That rules out places like Russia, China and the US,” he said, adding: “We also avoid debt from countries with poor credit ratings, for example Venezuela.”

Such exclusion is then followed by a best-in-class approach based on ‘A’ to ‘F’ ratings for countries provided by Sustainalytics, the Amsterdam-based ESG rating firm. According to Stephan, countries with an ESG rating of A, B, or C from Sustainalytics are investable, and that, under certain circumstances and within a defined bucket, D-rated countries can be considered. E- and F-rated countries (i.e. China and Russia with an F) are excluded. That results in a sovereign debt universe of around 30 nations. With such a limited portfolio, Stephan acknowledges that the performance, in the short term, can be less than that of other German institutions, including some churches.“But the key difference is that I have a good feeling about the portfolio, as it is upholding our ethical criteria,” he said.

As the German regulator BaFin requires schemes like Verka to be fully financed at all times (i.e. with a ‘coverage ratio’ of at least 100%), the scheme relies heavily on fixed income.

The carefully selected sovereign debt, as well as that from corporates, account for 80% of the entire portfolio. Equities and real estate each make up 5%, leaving the rest distributed between what Verka calls “alternative investments” like renewable energy (3%) as well as a single hedge fund and cash.

“If we don’t lead on these issues, who will?”

The Berlin-based scheme insures Protestant church employees across Germany, providing a supplemental pension to civil servants and an occupational pension to church staff. In 2013, its return on assets was 3.6% – above the guarantee and within the 3.4% to 4% range for the last four years.

Taken alone, corporate debt makes up 10% of Verka’s portfolio. As with sovereigns, Verka combines exclusion with a best-in-class approach to select investments in this space. Companies that deal in weapons (including outlawed cluster bombs and anti-personnel mines), pornography, tobacco, animal testing and too much in alcohol (15% of sales) are excluded outright. To then identify the best-in-class, Verka relies on sustainability ratings supplied not only from Sustainalytics but others like Oekom. This leaves an investable universe of about 500 companies. The same strategy is used for Verka’s equity portfolio, which is all passive exposure. “In terms of equities, our managers have constructed indices for us that adhere to our sustainable criteria,” says Daniel Wolbert, Head of Investments at Verka, who was present at the RI interview.

Verka also views green bonds as an interesting – and necessary – segment but says the returns on offer are too low for its taste. “As we are looking for returns that enable us to meet our guaranteed rate for pension savings, bonds from say (German development bank) KfW that pay less than 1% interest are just not for us,” said Wolbert. That said, Verka has subscribed to its first green bond, the one issued last April by the government for the French region of Ile-de-France. The bond, rated ‘AA’ by S&P and assured as green by French CSR rating agency Vigeo, offers a slight spread over French sovereign bonds.

Other green investments done by Verka are within the 3% alternatives portion and, because of the fund’s smaller allocations (between €5m and €10m), somewhat disparate. Examples include a hydropower plant in the Peruvian Andes and a wind park in Panama.

In Europe, Verka is also a minor investor in two European renewable energy funds from KGAL, a Munich-based firm, as well as in a real estate energy efficiency offering from SUSI Partners in Zurich.

Stephan and Wolbert say that while they would like to make renewables 5% of the portfolio, they are having difficulty finding projects that fit their allocation and return expectations. For example, German offshore wind parks, which demand huge investments, are not on Verka’s radar screen.

Another problem in Europe, says Stephan, is the political risk associated with the subsidies for renewable energy. “We’ve become more wary here following our experience with Spain and Italy. Literally overnight and per decree, their governments cut agreed solar subsidies retroactively,” he said.
While Verka has not lost any of the €25m it invested in a fund for the regions – there was also exposure toGermany, which hasn’t retroactively cut subsidies – its return has dwindled to 4% from 7% before the move. The experience has not discouraged Verka that much. According to Stephan, the scheme is looking hard at opportunities in places like the UK, France and Germany that have shown more consistency on subsidies for renewables. Verka is a recent signatory to the Principles of Responsible Investment (PRI) and Stephan says: “I believe it’s time for church investors all of Germany to stand up for what’s right, whether that be ethics in finance or climate protection. For if we don’t lead on these issues, who will?”

In terms of how Verka will engage on ESG, Stephan says that when it comes to issues at international companies, the PRI’s Clearinghouse initiative is ideal as it enables investors to build coalitions to ensure that they are taken seriously. In Germany, Verka is one of around 30 church investors of the Protestant faith with €30bn in assets that are on the verge of agreeing a joint responsible investment policy that includes heightened engagement on ESG. The group is known as the AKIEKD, and Responsible Investor understands that it will go public with the initiative next spring.