That said, we do sometimes tend to miss the wood for the trees.
The following quote from a recent press release caught my eye:
“The latest trends in ESG investing have been promising with investors increasingly wanting to incorporate ESG based criteria to their portfolios…there has been significant interest from market participants for a CDS index which would allow investors to gain exposure to (or hedge) ESG screened European corporate credit risk…In March 2020, IHS Markit launched the iTraxx MSCI ESG Screened Europe Index, which is a broad European corporate CDS index derived with ESG criteria.”
The basic idea is that you start with a broad swathe of companies, knock out the baddies according to “ESG criteria” and voila, you end up with an ethical portfolio.
Well…sort of. Providing ways for investors to steer their money away from the worst offenders (as the above index does) is helpful up to a point. It is the sort of ‘innovation’ that the financial industry excels at. More widely, the rise of responsible investing is undoubtedly a good thing. It’s great that asset owners and managers are paying more attention to factors such as climate risk, employee rights and corporate oversight. But when I read about ESG beta funds and new ‘ratings’ methodologies, it is hard to avoid a sinking feeling that we are drifting into box-ticking, and therefore missing an opportunity. As an industry, we could, and should, go further.
If we don’t, then there is a risk that responsible investment becomes ‘financialised’ and exploited as little more than a marketing gimmick. I wonder if this is part of the reason that the American Department of Labor (DoL) has proposed tightening ERISA rules to make it tougher to steer members towards ESG funds. The DoL paper announcing the new rules noted that, “ESG rating systems are often vague and inconsistent, despite featuring prominently in marketing efforts.”
It’s not to say that Baillie Gifford is against ratings, screens and exclusions per se. Used properly, they provide necessary clarity and transparency to clients who require it. Moreover, I am sure there is something in the argument that mechanically directing capital away from irresponsible businesses will eventually lead to changes in behaviour.
But surely this isn’t enough? At Baillie Gifford we describe ourselves as ‘Actual’ investors because we take the time to understand how individual companies work, scrutinising how they operate today, and how that may evolve in the future. Not by ‘scoring’ firms according to overly-simplified and rigid criteria and then acting as if that’s job done.
Excluding sin stocks – tobacco, arms, gambling – is a simple way to avoid some ESG ‘risks’. Crucially though, we see these exclusions as merely the starting point. Set aside the few real ‘no-nos’ and then the real work can begin. For us, this means looking at firms which could succeed because of their sustainable approach to business, not despite it. Personally, I am taken with Professor Colin Mayer’s vision of the purpose of the corporation, “To do things that address the problems confronting us as customers and communities, suppliers and shareholders, employees and retirees.”
It is near-impossible to capture in a simple rating system or clever chart (believe me, I have tried). But it is an approach that we believe will produce better outcomes in the long run, both for clients and for society. If we can help make this argument, then I will be able to look back in another 20 years with a sense of pride.