• A recent white paper suggests ESG integration has lost its meaning and needs to be recaptured

At a glance

• ESG integration is the most popular type of responsible investing, according to a recent survey
• A joint paper from Dankse Bank and Invesco Asset Management argues the term is sometimes used inaccurately
• The authors call for “authenticity” in ESG integration, which they say should always be about investing

Last month, Aon published its first annual global survey on responsible investing. One of the survey findings was that investors active in responsible investing (RI) seemed to favour the integration of environmental, social and corporate governance (ESG) factors into investment decisions over other types of RI.

For Aon, ESG integration is one of four sub-categories of RI, alongside socially responsible investing, impact investing and mission-related investing.

Others break things down differently. MSCI refers to the overall field as ESG investing and divides it into three main areas that each have their own investment objective. 

ESG integration, according to MSCI, is “where the key objective is to improve the risk-return characteristics of a portfolio”. This would be in contrast to values-based investing and impact investing. 

But according to investment professionals from Danske Bank and Invesco Asset Management, being able to say what ESG integration “really means” is becoming increasingly difficult because of the widespread and varied use of the term.

“The term is used by everyone, whether they integrate or not,” says Ulrika Hasselgren, head of sustainability and impact at Danske Bank and co-author of ‘Lost in Translation: In Search of Authenticity in ESG Integration’, a paper that was published in May.

In the paper, Hasselgren and her co-authors – Bonnie Saynay, global head of responsible investment at Invesco Asset Management and Henning Stein, global head of thought leadership at Invesco and fellow at University of Cambridge Judge Business School – say incorporating ESG matters into an investment process “is and should always be about investing”. 

The implication, it would seem, is that this is not always the case. As the authors put it: “When ‘ESG integration’ is disconnected from the investment process – when it is hijacked by screening, scoring, overlaying, filtering or any other form of framework or tool – something vital is lost in translation.

“We encourage a sincere search for authenticity in ESG integration and call for clarity in the approaches, strategies and methods used by investors and asset managers in the diverse space of responsible and sustainable investing.” 

At Schroders, head of sustainable research Andy Howard says he sees questions of connection or disconnection from investing as symptoms of a broader development.

“You’re getting much more interest in ESG generally from investors of any type,” he says. “There’s better awareness of what it means, there’s a greater appreciation that there are different ways of doing this and there’s a lot more scrutiny of what asset managers are actually doing.”

As the field matures, people are paying more attention to the detail, he adds. “I think that’s a good thing,” he says, “because it has been too long that people have been focusing on the headlines of things, the buzzwords rather than the detail and unfortunately there’s no real way around the problem. This is a complicated and challenging subject.”

In their paper, Hasselgren, Saynay and Stein argue that asset managers should focus on their fiduciary responsibility to investors and financially material ESG factors, and move away from priorities “rooted [….] in commercial and political imperatives”. They suggest that asset managers, asset owners and academics have lost control of the responsible investment agenda.

George Serafeim, professor of business administration at Harvard Business School, says he would frame things differently.

“‘Lost the agenda’ means that you basically have no control,” he tells IPE. “I don’t think that’s completely the case. I do think that what has happened is that frameworks and rating methodologies and so forth have taken on a life of their own and are heavily influencing what asset managers, asset owners are doing.”

The various frameworks and standards that are being created, for example to assess climate risk or water risk, need to be assessed to see whether they are “actually good or not good when it comes to ESG integration”, says Serafeim. “And the only people that can assess that really are the investors themselves.”

He emphasises that asset managers and asset owners are not a homogenous group and that some are doing a good job of integrating value-relevant implications of ESG issues.

However, “thoughtless adoption of tick-the-box metrics and tick-the-box actions is happening increasingly in the ESG space because more and more asset owners are pressuring their asset managers to say at least that they are doing something”, he says. 

Hasselgren says the paper was not intended to criticise asset owners and that it is very positive they are asking more of asset managers. However, asset managers need to do a better job of responding to the pressures they and their asset owner clients are under, she suggests.

Dealing with reputational risk has its place, adds Hasselgren, but investment organisations need to be able to take a step back when presented with a stakeholder list of alleged human rights violations or other violations concerning companies in their portfolio.

She says: “Understand what the allegation or potential allegation is about and what it means. As a portfolio manager I will reach out and talk to the company to make sense of it and if it is a reputational risk but the company is dealing with it in a thorough and meaningful way then I need to be able to take that in and report it back to the asset owner.”

Faith Ward, chief responsible investment officer at £30bn (€33bn) Brunel Pension Partnership, one of the new UK local government asset pools, agrees that asset managers are best placed to determine the financial importance – materiality – of a given ESG matter for a portfolio.

However, many need to do a better job of reporting to asset owners about their thinking and processes, she says. 

“I’ve been banging on about this for years,” she adds. “More asset managers need to step up and be able to be assertive. They’re the experts in their areas, so they need to be able to tell me in their words what’s important to them.” 

Hasselgren says it is important to listen to stakeholders such as non-government organisations, campaign groups and bodies like the UN, but that they cannot allow themselves to be controlled by them. 

“What I see happening is ‘if you don’t stand for anything, you may fall for everything’, you tend to be owned by everyone,” she adds. “We see that very clearly in the Nordic region. It’s a challenging and unsustainable situation.”

Zaiga Strautmane is the former head of ESG at MP Investment Management, which manages the DKK114bn (€15bn) pension fund for magistrates and psychologists in Denmark, and is now an independent adviser.

She says: “The pressure on investors to be more responsible comes from a good place, but often comes from people with no investment expertise. Investors cannot possibly continue to invest effectively if they try to please everyone who chooses to put out a demand.”

It is increasingly important, she adds, for investors to differentiate between those ESG issues that are material to investment decision-making as a contribution to longer-term returns and those they would like to build into their investment approach for other, non-investment related reasons.