In previous editions of the executive series, we had looked at both social and impact investments and how organisations can leverage on the advantages of investing socially or for impact in their respective enterprises, to yield both financial and social returns. It is however pertinent to also consider, beyond social investments, the importance of instituting responsible practices in business operations. Hence, this edition examines responsible investments and how they can be approached to fit into an organisation’s sustainability plan.
Since 2007, when the European Investment Bank issued its first green bond of EUR 600 million equity index-linked security for the funding of renewable energy projects and energy efficiency projects, major corporations and funding instruments have been increasing their financing efforts to favour more climate-smart investments. Harvard Business Review reports that as at 2017, public and corporate green bonds worth over $155 billion had been issued. As a result of this, the first ever “blue bond” was issued by the Republic of Seychelles in October 2018 to the tune of $15 million raised from international investors. It was meant to be a “pioneering financial instrument designed to support sustainable marine and fisheries projects.”
The government of Seychelles is credited with being the first country to pioneer this groundbreaking financing instrument. The blue bond is an initiative that brings together both public and private investments to mobilise resources for the purpose of empowering communities and local businesses while helping the country transit to sustainable fisheries, safeguard the oceans and sustainably develop its blue economy.
Not to be misconstrued with socially responsible investment (SRI) or impact investing, responsible investing has distinct features worth identifying, which will be useful to provide proper direction on the concept and how it can be successfully applied for optimum results.
Like social investments, responsible investing deploys an investment approach that combines environmental, social and governance (ESG) factors in investment decisions. These investment decisions are crucial to effectively manage risk and yield sustainable long-term results for public, private and philanthropic institutions alike.
Responsible investing is gathering global momentum and the following drivers are credited with the trend:
- The financial community recognises that ESG issues are crucial in determining risk and return.
- Investors have a fiduciary duty to their clients and benefactors to incorporate ESG factors in their decision making processes.
- There are legal implications around long-term interests of beneficiaries.
- Competitors now offer responsible investment services as a competitive advantage.
- The demand for transparency from beneficiaries to know where and how monies are being invested is also an important factor.
- With globalisation and social media, there is now more demand for organisations to avert “value-destroying reputational risk from issues such as climate change, pollution, working conditions, diversity, corruption and aggressive tax issues.”
As much as the concepts of socially responsible investment (SRI) and responsible investment are conjoined in overall themes like environmental issues, social issues and sustainability, they also share similarities in investment approaches like impact investing, ethical investing, and green investing. However, their distinction should not be overlooked as each concept provides its own unique prospects to investors as seen below:
|SOCIALLY RESPONSIBLE INVESTMENT (SRI)||RESPONSIBLE INVESTMENT|
|· Combines financial returns with a moral or ethical return.||· Can be pursued with only an interest in financial return.|
|· Targets specific themes e.g. environmental issues||· Adopts a more holistic approach, accepting any information material to investment performance.|
|· Involves positive/negative screening||· Does not rule out investment in any sector or company.|
|· Usually requires the use of specialised products (themed funds and green bonds)||· Does not require the use of specialised products.|
Responsible investing recognises the fact that ESG factors have material effect on the returns that clients and beneficiaries deliver, and to ignore them would mean ignoring the risks and opportunities they present. More often than not, the approach to responsible investment aims to use every information provided to ensure that all factors are accounted for when making assessment on risk and returns from decisions made on investment.
From the foregoing, how exactly can investors practice responsible investing in a way that it aligns with sustainable practices?
- Environmental, Social and Governance (ESG) information should be integrated into both quantitative and qualitative analysis of an investment portfolio. The information may include crucial analysis of the company’s value in equity investing, assessing the company’s solvency in terms of fixed income investing, etc. All of these will ensure that the company makes the necessary adjustments on matters pertaining to asset allocation and selection of investments.
- Another important aspect in the effective implementation of responsible investing is the proper monitoring of all ESG risks within the investment portfolio by measuring the portfolio’s carbon footprint. This useful quantitative instrument informs the creation and implementation of a broader climate change strategy. Companies can compare investment portfolios to global benchmarks ultimately leading to setting priority focus and tracking progress easily.
- Investment companies are also encouraged to reveal information about ESG factors that affect them. According to the Principle for Responsible Investing (PRI), these six principles are an apt guide on how companies can be guided on practicing responsible investing:
- Incorporate ESG issues into investment analysis and decision-making processes.
- Be active owners and incorporate ESG issues into ownership policies and practices.
- Seek appropriate disclosure on ESG issues by the entities invested in.
- Promote acceptance and implementation of the Principles within the investment industry.
- Work together to enhance effectiveness in implementing the Principles.
- Report on activities and progress towards implementing the Principles.
Irrespective of their differences, having ESG criteria at the base of their existence ensures that both SRI and responsible investments are working in tangent to ensure that sustainable markets are making tangible contributions towards a more prosperous world.
Editor’s note: In subsequent editions we will share case studies of how responsible practices have helped in creating long-term value for beneficiaries and the society.
*Article written by ThistlePraxis Consulting