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According to recent figures from the Investment Association (IA), net retail sales into responsible investment funds reached £1.2bn in January 2021, with UK savers putting on average £1bn a month into these funds in 2020.
To give a further indication of the surge in demand for ESG funds, at the end of 2020, EPFR ESG fund assets under management reached $1.6trn (£1.16trn), having increased tenfold since 2017. Meanwhile, a recent report from PWC estimated that ESG funds will account for 25% of all fund flows by 2025, and their base-case scenario estimates assets will have risen from $1.6trn to $5.5trn.
From a UK perspective, according to the IA, responsible investment funds under management now total over £56bn, growing 66% in the past 12 months. Total net retail sales during the past 12 months was £12.4bn, accounting for 43% of total net sales.
At the opposite end of the scale, traditional value funds have had a torrid decade. A combination of low interest rates and weak economic growth has led value to underperform growth for the past 10 years, leading to significant outflows from investors. However, while value investors are at the mercy of macro trends, John Teahan, portfolio manager at RWC, says this should not also be the case for ESG flows.
“Value investors have ceded ground on ESG to ‘growth’ and ‘quality’ investor voices, but our approach needs to change,” he says. “In my opinion, value investors should be playing a leading, activist role in promoting sustainable behaviour among corporates, and conveying this pivotal position we hold to the wider investor audience.”
Teahan notes that because of the industries in which value investors are involved – namely ‘old economy’ polluting sectors such as mining and energy – value investors are in a unique position to push for change.
“It is value investors who have a huge opportunity in terms of impact investing, particularly in the crucial next decade when considerable action needs to be taken if we have any chance of meeting the aims of the Paris Agreement,” he says.
“The assets under management controlled by value investors dwarfs that held in the official impact investing category, and these value assets can and should make a big difference.”
Given that coal currently accounts for 40% of all global fossil carbon dioxide emissions, Teahan concedes it is much easier to follow the divestment path than make a case for remaining invested. However, he argues that simply starving energy and mining companies of capital is not going to solve the climate change problem.
“If a fund divests shares in a company that owns coal asserts, those shares don’t disappear, another investor buys them,” he says. “The investor who divested the assets did little to remove coal from the energy mix, or CO2 emissions from the atmosphere. They likely just passed on assets at an attractive price to a less ethically minded investor.”
Instead, Teahan argues the focus of investors should be on giving a clear message to management and boards that they do not want to see capital expenditure deployed on developing coal assets.
“While we long for the day when society can completely switch from fossil fuels and rely purely on wind, solar and green hydrogen, realistically this is many decades away, if ever wholly possible,” he says.
“Energy companies must continue to meet our energy needs and they will do so, particularly the European majors, while moving to clean energy as they attempt to meet the goals of the Paris Agreement. The transition requires massive investment from the sector in the proven areas of wind and solar, and the majors are committing further vast sums for development areas, such as green hydrogen and carbon capture.”
For Teahan, this is not about giving energy and mining companies a free pass to continue polluting in the interim. Instead, he says it is now the job of shareholders and those entrusted to represent shareholders, to ensure company management teams remain on track with their plans, and to encourage them to go further and faster where possible.
“In the medium term, the divestment focus should shift to how fast energy companies can switch their portfolios away from conventional oil and gas, while meeting energy demands,” he says. “Companies like BP, which in September 2020 announced a plan to reduce hydrocarbon production by 40% come 2030, are making such moves.
“Starving well-run companies like that of capital, when they are trying to be more responsible, is not the answer. In a world of soundbites and tweets, it is a commercially easier and less controversial route for fund managers and asset owners to take, but it may well undermine the transition we need to make.”
Indeed, Teahan says such an approach may also cause those companies responsible to push these assets onto more unscrupulous owners who aren’t trying to adhere to the green agenda, which he notes would be a particularly unattractive outcome.
“The world needs energy and metals, and it needs to combat climate change,” he says. “The companies that generate the energy and mine the ore now, and have done so for decades, may have been responsible for much of the pollution we are trying to combat, but they are also at the heart of the solution. Cutting them out simply won’t work.”
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John Teahan on opportunities for sustainable value investing. Interview by Adam Lewis.
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