The European Social Investment Forum (Eurosif) has just published its European SRI Study - 2006. An update of its 2003 project, this is the only public review of all SRI assets under management across Europe. The report reveals that European broad SRI funds under management are now estimated to be more than €1trn. This represents 36% real growth since 31 December 2002.1
SRI investments are assets that are selected or managed in consideration of corporate social, ethical, environmental (SEE) risk and performance, as well as of corporate governance.
Eurosif's research effort faced the challenge of bringing perspective to the amazing variety of practices that the market has developed across Europe. Against a backdrop of growth, the field of SRI remains an area of diversity, reflecting the segmentation of investors' response to the SRI proposition. These differences come across as a mix of ethical considerations, sustainability concerns and extra financial risk and opportunity management. At one end, assets subjected to engagement approaches (shareholder dialogue) total €730bn. Integration (or the integration of extra-financial issues - environmental, social and governance - into mainstream analysis), covers €641bn. These are usually managed for long-term institutional investors, typically a UK pension fund.
Next, products proposing more complex ethical exclusions collect €73bn, reflecting the requirements of charities, faith groups and retail investors.
In between, simple exclusions (such as weapons, tobacco or human rights) reach €266bn. These often cater to the perhaps more consensual need for an ethical stamp by institutional investors. A great range of positive screening products range from best-in-class (€29bn, selecting the more sustainable companies in each of the portfolio's sectors, a continental favourite for institutional investors) to a growing supply of thematic investment funds that focus on industries of the future.
Far from being stand-alone approaches, these strategies are mostly being used in combination by investors. This explains why adding the figures above surpasses the total market size of €1.033trn. The geography of SRI is also subject to diversity. The bulk of assets is managed out of the UK (totalling €741bn). Among the continentals, the Netherlands and Belgium stand out, while originally small markets such as Austria and Spain are now booming.
In terms of asset allocation, the focus is on large caps (90%) and Europe. Some UK and Swiss managers, however, are moving to small and medium caps. Stock is dominant, but bonds are making progress, and newer asset classes such as structured products or real estate are entering the fray. Research on corporate extra- financial issues comes from diverse sources, including external specialist research providers, in-house analysts and increasingly broker research.
These trends are all clearly good news for the SRI sector, as changes that have slowly started to happen in the past few years are now starting to reap benefits. The study shows that the three key drivers of the growth in SRI are the increased credibility of the business case in the financial community, business and financial services regulation that requires more transparency and incorporation of SEE issues, and a growing use by the fund management community of strategies such as engagement and integration, which may be used across all assets, regardless of whether they are specifically subjected to SRI mandates.
learly, a growing number of investors are becoming aware of the potential impacts of SEE issues on the economy, and climate change is a great illustration of this trend. Indeed, individuals, business owners and investors all perceive how changing weather patterns and rising temperatures can impact their lives and companies - and risks.
Further, governments have been actively regulating areas such as corporate governance, health and safety, or the environment, placing higher requirements on companies to produce and perform sustainably. Witness the EU's Reach Directive, which aims at increasing transparency in the chemical sector. These significant regulations are rightly monitored by extra-financial researchers.
The difference between financial and extra-financial risk tends to become blurred in this kind of context, and the growing evidence that SEE issues impact corporate performance has not been without consequences for the investors community. Note that evolving financial regulations also play a role. Strong quantitative restrictions are being removed and replaced by more liberal principles around the prudent person standards, thus giving oversight bodies freer rein but also greater responsibility in overseeing risk. Indeed, some are reconsidering the meaning of fiduciary duty in this new light.
In asking pension funds whether they are taking SEE issues into consideration, the UK pension reform of 2000 certainly opened doors. Recent research by the UN Environment Programme Finance Initiative and legal firm Freshfields Bruckhaus Derringer suggests that "integration of [extra-financial] considerations into an investment analysis so as to more reliably predict financial performance is clearly permissible and is arguably required in all jurisdictions". At the same time, a growing number of funds are now required by law or by rules to take SEE issues into account in their investment process.
This partly explains why leading asset owners have been important drivers of the growth of SRI. This includes familiar names such as the Universities Superannuation Scheme or the Environment Agency in the UK and the Fonds de Réserve pour les Retraites in France. The trend seems to be that many other funds are encouraged to follow suit. But SRI is also driven by the resources and products offered by investment managers and other financial service providers, whose ranks in SRI are growing daily due to the rising interest of traditional houses in this sector.
Ultimately, the study notes that parts of the SRI field are continuing to act as the vanguard on some leading issues.2 At the same time, mainstream institutional investors are being attracted to research that shows how SEE and corporate governance issues are both risks and opportunities with regard to the bottom line and this represents a considerable driver for the European market. Matt Christensen, executive director at Eurosif, expects significant growth from the SRI market in the next three to five years.
Jérôme Tagger is head of research at Eurosif. The European SRI Study 2006 can be downloaded or ordered free of charge at www.eurosif.org
1 Benchmarked against the MSCI Europe Index. Additionally, to account for a change in methodology, the 36% figure is derived from comparing assets under management that were measured by Eurosif in both its 2003 and 2006 studies.
2 The study distinguishes core from broad SRI practices to separate more historical approaches from the newer, institutional investor-oriented strategies