PIMFA ESG Podcast - May 2020

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How to discuss ESG with your clients during the pandemic

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Ryan Medlock, our Senior Investment Development & Technical Manager talks to PIMFA about why ESG is so important during these challenging times, and discusses the questions you can be asking your clients to establish their ESG preferences.

Philip: Welcome to the PIMFA podcast channel. In this episode I speak with Ryan Medlock senior business development manager at Royal London and Julia Dreblow, founder of SRI Services and FundEcoMarket.co.uk on why ESG in these challenging times should still be front and centre of advisers minds before discussing the type of questions advisors can ask their clients today to further enhance their clients’ understanding of ESG. So, let's get to it. Julia. Do you think that the current issue and impact of coronavirus is the first real test of ESG?

Julia: I think there are a few aspects here. My first thought is that it’s put ESG under the spotlight. But not in such a way that I think is particularly challenging for ESG. I would say the biggest challenge is for those funds that don’t take account of ESG factors because what we’re really seeing today is those companies with poor social practices in particular are coming under a lot of criticism, governance failures and also a recognition that actually we've got to stop ignoring external factors such as environmental concerns. So, I think actually it's a bigger test for other funds than it is for ESG funds.

Philip: Ryan - your viewpoint on coronavirus being a tester challenge for ESG?

Ryan: Well I think it's a really interesting one and I think the whole pandemic that we have is certainly given a new angle to ESG if you like. So if you think about it from the from the corporate governance side we have found been really, really interesting is putting this pandemic in the context of how certain businesses are responding to the crisis. So on one side of the coin you've got companies like Nationwide and Iceland both announcing that they're going to be opening earlier for more elderly and vulnerable customers and I dare say it'll be many more examples in the coming weeks and months. And on the other side of the coin you've got companies like Sports Direct and Witherspoon's who have met widespread criticism for their initial reaction to the crisis. So, I think that this is going to be an evolving piece really and I think we're going to see much more momentum in this area but I certainly think it's given the ESG perhaps new angle in the light of this crisis.

Julia: I guess I would just add one of the comments I read earlier I think is in the FT or something was this will show up those companies that if you like are swimming naked in the SC market. So those people who are perhaps not doing everything they should do they're talking the talk on ESG but not actually living and breathing it. So companies will increasingly be found out whether that's fund managers or whether that's individual organizations that are pretending that they're better than they are in order to get into ESG funds. So that's perhaps a little bit of a risk and a challenge for ESG managers.

Philip: Ryan it looks like there's going to be a dip in the economy. Will ethical investment be lower on the list of priorities of investors and therefore financial advisers?

Ryan: Well I think responsible investment in general isn't suddenly going to disappear overnight although some people would view ESG as a luxury in the midst of a downturn, which I would strongly disagree with by the way. But you know societal shifts are still taking place. Society is continuing to place more emphasis on things like fair board structure equal pay and obviously climate change. And you know although the global news agenda is completely consumed by Coronavirus headlines right now, if you've looked beyond the coronavirus headlines since the turn of the year you'll still see that extreme weather events are taking place, whether that's wildfires in southeast Australia or flooding in Wales and parts of England and you'll have heard news about the third runway at Heathrow Airport being blocked on environmental grounds. Greta Thunberg marching through the streets of Bristol and other European cities, and I think to an extent this has ensured environmental and sustainability issues have remained towards the forefront of the world's news agenda despite all this ongoing narrative with coronavirus, and in parallel to that we've continued to see a surge in popularity for responsible investment and the movement towards responsible investment does remain incredibly strong. I mean go back since 2018 - I think I saw some stats that there's been over 170 ESG related regulatory measures proposed globally. So that gives an indication of the scale of change in this particular area and I think there's still going to be significant pressure on policymakers not to take their eye off the ball in that. You've got then all of these various macro initiatives which are continuing to push responsible investment further into mainstream for both companies and investors. And ultimately that should mean responsible investment remaining a priority for investors and therefore advisers, despite all of this uncertainty over the short term.

Philip: Julia, in all your years of experience obviously we've seen downturns and recessions before, investing in ethical investments and socially responsible investments- have they taken a hit after an economic blip?

Julia: Historically they often have - a lot of the funds that are invested in small and mid-cap companies have suffered as people have moved towards blue chip larger, particularly oil and gas companies. They've seen this in the flight quality some recalled, so that is what has happened historically. I think this have changed very substantially over recent years. I don't see history repeating itself. I think the flight to quality will be to those companies that are managing environmental social and governance issues well, so I think there's a pretty reasonable chance that a lot of these funds in this sector, providing they're well managed and good at picking out decent companies, will actually come through stronger than those funds that fail to do so.

Philip:  We are focusing on the responses and reaction of financial advisors to ESG in general but obviously in light of what's happened in recent weeks and months what's the impact you think on financial advisers confidently disseminating that advice and guidance to their clients on ESG, in the short term as well as also the medium term?

Julia: We are seeing more advisers than ever gearing up for change in this market than before. I've got a lot of people phoning me asking what other alternatives are there if they want to run things differently. I try and present all the different options but I think they probably asked the advisers who are not getting in touch with people like me which we're all looking on our site but really the traffic on our site is up. People are doing their research, getting ready -they know change is coming. They know that the MIFID II rules will be along at some point in time, but I don't think we can get away from the fact that things like climate change and massive business issues as well as regular environment concerns. So realistically they know that things have to change and clients are asking questions. Advisers are phoning saying that we had a client ask them such and such. How do I look that up? How do I meet this need? So they recognise the need for quality research.

Ryan: I'm very conscious that some of those advisers will have never been asked any questions at all by their clients around responsible investment, around ESG considerations. But I do believe this is going to change massively in the next couple of years. I think one of the reasons it's going to change is obviously the regulatory drivers. So obviously Julia there talked about the MIFID II amendment which is coming. That is really going to push ESG further into the mainstream and into the heart of the advice process. But aside from the regulatory drivers, there are all of these societal shifts and societal changes which are taking place. So, the fact that people recognize the need to behave more socially responsible and people admitting that investing responsibly should be a more important consideration. So, I think there's a variety of factors all pushing and pulling here which will ultimately make advisers and their clients sit up and take notice of more of these factors.

Philip: Is this something that's been thrust upon them or are they taking proactive steps to go, hang on a second, we need to change. We see the opportunity is coming from the advisers themselves, or is that them absorbing what the feedback from their clients are saying to them or both?

Julia: Yeah I think it's a bit of both. But I guess some, so I'm only talking to those advisers really who are coming to me or have chosen to attend events go to conferences etc.. So, I'm seeing probably if you like the better equipped advisers mostly anyway. What I would say there's obviously been a massive uptick in the number of conferences being organized that will be rescheduled. But you know I had so many in my diary for this summer like never before and I've been doing this 20- 25 years, so there's obviously a demand for advisers and it's being met by lots of different organizations through from the head offices of the networks through to the platforms, through to the media. I think if advisers know their clients that they should be just giving suggestions about different ways that you start the process and then go through it. I think there's a recognition that this is a real opportunity and are so many advisers that seem to really throw themselves into this, just obviously feeling fantastically enthusiastic that they can actually play their part in helping solve problems and invest in solutions companies, and incessantly avoid those that are doing if you like significant harm to the planet – to pick up on the words of the new taxonomy that was launched a couple of weeks ago.

Philp: Ryan- talk us through how advisers that Royal London are engaging with are integrating ESG into the advice process?

Ryan: Now there's plenty of evidence highlighting lots of great examples in place creating some really good client outcomes. I think it's really, really important to integrate ESG within the overall due diligence and research processes that advisers are running. Because based on the conversations I've had with advisers and this is my personal advice here, would be to literally leverage as much information as you can from your asset manager on their responsible investment approaches because this will undoubtably make it much, much easier to integrate those ESG considerations within the advice process. So you know whether it's example questions to ask asset managers about what sort of things or what initiatives they are signatories to. Whether that’s UNPRI, UK Stewardship Code, or climate action 100. What specifically are their policies in relation to responsible investments, maybe look at things like voting engagement and ESG Integration, establishing whether exclusion information and voting records is publicly available. So just some example questions to really think about and probe at pre investment, and post investment policies- related to portfolio management and governance. And I think that's a really, really important first step to feed into the advice process before giving consideration to the type of responsible investment proposition that they ultimately want to offer to clients with strong ESG preferences. Whether that's an ESG centralized investment proposition or not. But the final step is to think about what kind of questions advisers want to ask their clients to understand their ESG preferences and I've seen lots of evidence of advisers integrating such questions into both their fact find and annual review processes.

Julia: So I'll pick up on a couple of points there. One thing to say is Ryan is absolutely spot on. This is about looking under the bonnet, about understanding what a fund manager does. Don't go looking for just pure rating, we may get marks out of 100 or a number of stars. If you want to get close to your clients on these issues you've got to be close to fund managers to know what they do. We split the information into a couple of different areas. So the first is the policy's issues and themes so the fund looks at. What are the issues and themes that the fund management company looks at. The next is the approach, so what approach does the fund manager take. If they're looking at avoiding things I'll be looking at selecting positive companies or solutions or things in impact or is it really being led by perhaps some kind of international norm or standard, and then the third one is to look at the corporate activities of what goes on behind the scenes in the fund management company. Who are the people, what are they affiliate what's the company affiliated to. Like Ryan said, people like the PRI, whoever, what involvement do they have in this movement, the shift towards more responsible investment that actually will enable us to sustain decent returns over the longer term.

Just to say on the advice process for individual advisers what I would suggest doing is going through. You can call it a six-step process if you like but the first is to identify who is interested in this area. So a binary kind of question in your initial fact find questionnaire, would be are you interested in environmental and social issues would you like to take a look at those when we're choosing where you invest -that kind of question. Then identify the key areas of interest works best. What kind of areas- is it sustainability is it ethics? Is it the environment? Are we looking at just doing some simulated related exclusions and nothing else? And then you've got to go into refining what the search is when you're looking to match clients names to the funds- dig a bit deeper to understand what specific issues are. Is it climate change or is it just deforestation or is it human rights issues, is it child labour? Look at the environment social and governance issues that are important to clients-lots of different ways you can do that but you then the next bit is digging deeper and then you're integrating that information into your search funds causing your findings and then bringing us into the advice process to come up with a short list of funds or portfolios that it may be appropriate and worth taking forwards and being under consideration.

Ryan: Building on the points that Julia was just going over there are questions that probe and gauge a client's overall feeling towards ESG I think because some of the best questions and I think it's important to bring the impact of ESG to life with examples of different factors. So in terms of thinking about specific questions you could have a specific question in there on environmental factors. So gauging what the client's views on environmental factors are I mean a lot of people when you see environmental factors then we'll just automatically assume that you're just talking about climate change. But you know as Julie was saying there are many other factors within that. So companies impact on the biodiversity, water scarcity, energy usage. You could also include a question that specifically tugs at social and corporate governance factors and you're linking it back to the examples we were talking about earlier for around the coronavirus angle and I'm talking about specific businesses and their responses to I think are a good way of engaging clients on this. And I also think it's important to ask if there are any sectors the client would wish to avoid investing in how performance may therefore differ from more mainstream investment strategies and that's not meant to be a negative observation by the way. But I think it's important to clarify that certain responsible investment approaches will behave differently to other approaches and I think when you carefully constructed include questions like this entire process it will help a basis determine their client's overall feelings towards ESG and subsequent feelings towards the impact this can possibly have on their returns.

Philip: We always like to end up wrapping up our discussions and our interviews with looking at future forecasts – you know forecasting what's going to happen in the next day, the next week or the next month. Can I start by asking Julia first and that is why should ESG be front and centre of an adviser's mind in March 2020 when they're all remote working, when some are in social isolation and at as we all are at the moment it's social distancing. Should they be making ESG front and centre?

Julia: My immediate answer to that is because when we get to the other side of this environment social and governance factors will still be important and that will be increasingly important. So this should absolutely be front and centre in your mind when you're talking to clients. Now climate change would still be a massive issue. Cop 26 is still going ahead. I mean this coronavirus is just our vulnerability under the microscope and a lot of the issues is about addressing those vulnerabilities and actually focusing on what is sustainable so we can carry on long term and a lot of what we've done before just simply can't. So I would absolutely tell advisers to keep this front and centre right now tomorrow and the day after that whenever the world looks like this is this isn't going away.

Philip: Ryan would you support that?

Ryan:  I think it's very easy to get absorbed by all of the current noise around what's happening with a pandemic. But I think is really, really important not to forget one of the main benefits of ESG investing and that's the strong ESG scores can signal that a firm is more naturally aligned to longer term strategic thinking. And I think when investment managers are taking this into account within their processes this can help them make better investment decisions and it's very much investing with a long term lens. And I'd argue for this to be at the forefront of advisors minds right now because embracing SGP does have the potential to improve financial outcomes for clients and I think it's really really important that advisors don't lose sight of that obviously in the current environment. We're seeing a lot of businesses advisors and other parts of society adapt and having to adapt really really quickly to the world we're in but I think from an advisor perspective ESG really does have to be front and centre for a lot of the reasons that we've discussed in this podcast today.

Philip: Thank you Julia and Ryan. To find out more about Royal London's approach to ESG please visit Royallondon.com. For help in understanding and comparing the many different sustainable responsible and ethical investment fund options please visit Julia's website fundecomarket.co.uk

This website is intended for financial advisers only and shouldn't be relied upon by any other person. If you are not an adviser please visit royallondon.com.

The Royal London Mutual Insurance Society Limited is authorised by the Prudential Regulation Authority and regulated by the Financial Conduct Authority and the Prudential Regulation Authority. The firm is on the Financial Services Register, registration number 117672. It provides life assurance and pensions. Registered in England and Wales number 99064. Registered office: 55 Gracechurch Street, London, EC3V 0RL.