The flag to attract institutional interest

Both retail and institutional markets have seen a proliferation of screened ethical funds over the past year, despite adverse market conditions and overall decline in popularity of screened funds, according to a report by Avanzi, the Italian SRI research organisation (part of the SiRi Group).
The report, entitled ‘Green, social and ethical funds in Europe 2001’, highlights the growth of such funds in both size and number, from January 2001 to June 2001.
Matteo Bartolomeo partner at Avanzi, says: “Screened funds serve as an entry level purpose for asset managers who want an introduction to SRI investments. The first thing they can apply is negative screening, it is easy and the service and information required is cheap. It is also easier to defend why one excludes or includes certain companies.”
According to the report, as of 30 June 2001, there were 251 green, social and ethical funds operating in Europe, with a 58% increase (from January 2000 to Q2 2001) in available financial products to retail investors.
The research also identifies the leading countries in SRI investments as the UK, France, Sweden and Belgium, which together account for more than 66% of the funds available in Europe.
The relative weight of the UK on the entire SRI funds industry in Europe decreased from 33% to 25% from the end of 1999 to mid 2001. Countries which display the biggest increase in funds are France (170% in the number of domiciled funds), Belgium and Germany (both above 120%).
Varying growth rates from country to country is attributed to the relative saturation of the market. In the UK, for example, over 55 financial institutions offer an ethical option to their clients.
The Italian retail market also enjoyed a rapid increase in popularity of ethical funds, doubling from nine in June 2001 to18.
Bartolomeo says: “One could criticise this as merely a trend for asset managers to launch SRI products. But it is due to these funds that the Italian institutional market is becoming professional. The retail fund acts as a flag to attract institutional interest.”
Retail and institutional SRI markets have developed their own individual approaches. The retail end is responding to market demand whereas the institutional market has developed in response to environmental and social issues forming part of corporate governance issues.
The take-up of SRI differs between various European countries; according to a recent report by the Limburg Institute of Financial Economics (LIFE) and Dutch pension fund ABP, while the US market for ethical mutual funds rose from $12bn (E13.5bn) in 1995 to $153bn at the end of 2000, the European market for ethical funds is still at an early stage of development. For instance, in Belgium, France and Germany, ethical funds do not even account for 1% of the total domestic market for mutual funds, the LIFE report states.
Front runners in Europe are Sweden, the Netherlands and the UK. But even their relative importance is only half that of ethical funds in the US.
According to the Avanzi report, year 2000 was a breakthrough year for Belgium in terms of SRI investments and by the end of 2001 it had 36 sustainable funds under its belt.
Many Belgium institutional investors have opted for a wait-and-see approach, according to Kurt Jacob, institutional sales manager at Ethibel, the Belgian SRI research house. Several SRI initiatives are in the Belgium pipeline, including proposals by the E375m Flemish Care fund, to invest 35% of its assets in stocks using SRI criteria.
Jacobs says: “This could be a good initiator of SRI issues within the institutional markets in Belgium. This year is the year that institutional investors are really looking into SRI and making up their minds. Nobody wants to be the laggard but we don’t have a leader yet.”
It is estimated that around SFr5-6bn (E3.5-4bn) of institutional assets and SFr3bn (E2bn) of retail assets are using SRI criteria.
But with currently over £120bn invested in institutional and retail funds with active SRI policies, the UK still enjoys leader status within the European SRI arena. The total value of SRI retail funds currently stands at £3.8bn (EIRIS, December 2001). The total number of ethical funds in the UK in December 2001 was 60.
Bartolemeo says: “The UK is more advanced in terms of choices or subscribers. There are a large number of funds, so subscribers have a lot of choice. These funds can have many different styles, some use engagement, others use negative screens or positive screens. This kind of differentiation in the UK is the outcome of stronger competition and a more mature market, while in other European countries, SRI is still a novelty.”
Emma Howard Boyd, head of environmental research at Jupiter Asset Management, says: “A big difference is the whole equity culture. The UK markets, both institutional and retail, are much more used to investing in the stock markets. Although other European countries incorporate better green and socially responsible activities than in the UK, such as recycling, the public sentiment around equity investing is not as developed, so that the industries themselves are years behind.”
A large proportion of the overall growth in the total value of SRI funds is linked to the significant increase in the amount of money invested in UK pension funds with SRI criteria, which increased from £25bn in December 1999 to perhaps £85bn in October.
The European Sustainable and Responsible Investment Forum (EUROSIF), , has also been lobbying the European Commission to introduce European-wide legislation around the same disclosure regulations already in place in the UK, and to disclose on the disclosure.
Whilst the screened fund industry is easier to quantify, the same cannot be said for the engagement aspect of SRI, as there are fewer identifiable SRI funds using positive engagement criteria. But one of the problems faced by the SRI industry is the lack of transparency within the asset management industry and the fact that it remains very hard to identify what percentage of total assets in SRI funds is coming from institutional investors and pension funds.
Philippe Spicher, chief executive officer at Centre Info, the Swiss-based SRI research company, agrees: “Most assets are not managed by funds or investment foundations, but directly by asset managers. Most of the institutional assets are managed directly by institutions on a discretionary basis.”
Pension funds are under increasing pressure to take social, environmental and ethical considerations more seriously and to delegate this responsibility to their fund managers. But the concern is that they do not effectively follow this process through.
“The issue now is one of quality, not of quantity”, says Duncan Green, co-ordinator of Just Pensions, a project set up to develop best practice in SRI investing. A lot of pension funds have included SRI in order to keep everyone happy, but they don’t actually want to get involved, as they still tend to have a very short-term focus on return. This makes it harder for them to take SRI seriously as it is a much longer-term issue,” he adds.
The introduction of defined contribution (DC) of plans should theoretically help solve this problem. Pension fund trustees and fund managers need to be persuaded that as an aspect of corporate governance, they should consider social and environmental risks. This business argument is not changed by whether it is a defined benefit (DB) scheme or DC. However, it is argued that providing DC’s will offer increased opportunities for SRI options.
Green highlights another problem. “DC schemes will be another string to the SRI bow and will give people more investment choice. If you can’t persuade your pension fund to take social responsibility seriously, at least you will be able to put your money into something that needs your needs.”
But there is also concern that trustees may try to get off the hook by offering an SRI voluntary contribution and ignore the main body of their fund. “We don’t want SRI to be ghettoised into an ethical option, so in some ways a shift to DC schemes could be a negative step as it could mean that companies cease to take responsibility,” he says.
The City of London is currently driving the bulk of supply for SRI institutional and retail products, but minimal demand is coming from the trustees. “The issue is supply driven, which is precarious,” Green says.
The Avanzi report’s findings conclude that SRI funds still comprise a very limited portion of all funds in Europe, and the assets under management are only 0.43% of the total assets managed by Ucits funds. The average number of assets in green, social and ethical funds is still very narrow and has even decreased, from E74m to E60m since the last survey in year 2000. This average is around 600% below the average for European funds for European funds in general of E140m.

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