Sustainable investing, which seeks positive returns and long-term impact on society, the environment and the performance of a business, has been the buzzword of the past 12 months.
Large institutional investors have increasingly responded to the demands and pressure of retail investor and the general public by making a company’s track record and actions in terms of environmental, social and governance (ESG) criteria a key factor for investments.
For some, ESG considerations are merely a checklist of risks that might impact the performance of a company.
How companies manage resources and prevent pollution, reduce emissions and disclose their environmental record is not only a potential reputational risk factor, but it is also becoming part of their value profile.
The same applies to social factors such as promoting health and safety, adequate labour standards and fostering staff morale.
Traditional corporate governance issues in terms of shareholder rights, corporate risk management or board compensation are now scrutinised by investors as part of their ESG considerations just as much as management and workforce diversity.
As a result, more and more investors regard the sustainable positioning of companies around environmental and social values as a performance driver, forcing businesses to take action.
But all that was before the coronavirus pandemic wreaked havoc in the financial markets and the wider economy.
It is easy to assume that in the current turmoil sustainable investing would be abandoned in favour of an investment approach that seeks pure returns, regardless of how they are achieved.
When markets are rising, talking about stakeholder interests is not difficult. The latest market upheaval will separate those for whom sustainable investing was just marketing rhetoric from businesses that act responsibly with a long-term view.
It is not inconceivable that long-term risks like climate change will have to take the backseat to immediate risks in terms of the health and economic impact of COVID-19.
Yet, it does not necessarily have to be that way.
Doing the right thing
A first test will be how companies treat their workers during the sudden downturn. In the Cayman Islands, DART has decided to keep all staff on the payroll, even if they are employed in industries, like tourism and hospitality, where there is currently no work. Of course, not every business has the same means and liquidity and some companies will indeed have to make their staff redundant with the promise to rehire them at the earliest opportunity.
But large stock market-listed companies, which in the past spent much of their free cashflow on share buy-backs, will have to face the question whether some of that money should not have been used as a reserve to deal with a potential crisis. Especially when these companies are now pleading for government support.
In the United States, the Trump administration is reminding companies of the profits they have made in the past.
Treasury Secretary Steven Mnuchin said on CNBC during the stock market turmoil earlier this month: “There’s a lot of people who have had great success in the Trump economy, and a lot of corporations that have made a lot of money. And I would hope that these corporations are willing to lower their profits and keep their employees employed through this, even though there’ll be short-term difficult times.”
Governments have already indicated that they will turn on the taps to help businesses, but they and the taxpayer will have the right to ask for those companies, in return, to act socially responsibly and more environmentally minded in the future.
Perhaps governments will not have the ability or the desire to fund or push for green initiatives when the priority is to kickstart the economy after what may well become a deep recession. The general public might also not be prepared to make any sacrifices or alter behaviour on top of what is already an unprecedented forced lifestyle change.
But the opposite could also come true. An extreme global crisis that was not even on anyone’s radar a few weeks or months ago will sharpen the focus on long-term global issues.
Rather than making ESG issues irrelevant, the current turmoil could be a catalyst to re-examine our values and the true purpose of business and finance.
It could also prompt investors, executives and policymakers to take more sustainable action around climate change.
Anecdotal evidence suggests that the current lock-down has resulted in dramatic improvements of air and water quality and lowered CO2 emissions. If this can be scientifically validated, it would serve as an example that countries do have the ability to positively impact the environment, provided they have the political will. After all, a brief decline in emissions will not stop global warming.
For investment professionals, the systematic examination of ESG issues leads to a more complete investment analysis and consequently informs better investment decisions. It flags up companies that maintain outdated practices with potentially harmful side effects and risks.
Companies that perform well according to long-term ESG indicators are also much more likely to have positioned other aspects of their business more solidly for long-term success.
For a long time, critics of the ESG concept have propagated the misconception that ESG considerations adversely affect financial performance.
Fortunately, there is a growing amount of data that proves this is not the case. Then it was argued that ESG performance had not been tested in a crisis.
The first months of 2020 have shown that leading ESG companies both in Europe and worldwide have maintained their performance lead during the sell-off. In Europe the margin is slightly wider in favour of ESG leaders than worldwide, but the trend is the same so far, suggesting that ESG-focused companies are indeed more resilient.
That alone should ensure that ESG investing will remain after the crisis.