If the pandemic has had any effect on investing in companies that place a higher priority on environmental, social and governance (ESG) issues, it might be that it has encouraged their clients, particularly millennial ones, to look closer at how their money can influence positive change around climate change, representation and social justice.
Jim Morris, Managing Director, Investment Management, Scotia Global Asset Management and COO of 1832 Asset Management LP, and Daniel Yungblut, Vice President and Head of Research and Chair of the ESG Investment Committee, at 1832 Asset Management LP, Scotia Global Asset Management’s Investment Management arm, spoke with Perspectives about how ESG investing has progressed over time and how investors can navigate this space to help ensure they are investing in line with their objectives.
Q: ESG investing has garnered a lot of attention recently, but it is not a new concept. How has it evolved over time?
Morris: ESG factors have always been part of the due diligence we have done as an active, fundamental investment shop to assess the risk/reward merits of investments. We trace our investment roots back to the 1950s. It has always been part of our analysis, but it hasn’t always been called ESG.
The term ESG can mean many things to many people and has undergone shifts in focus over the past several years. Five years ago, people were often referring to the space as “GES” because governance was the big focus. In the past two or three years, with the focus on net zero emissions to halt the most damaging effects of climate change and the introduction of carbon taxes for consumers, the E in ESG has moved more to centre stage. Most recently, with social justice issues at the forefront, there has been more focus on the “S” or social in ESG.
Yungblut: The pandemic has thrust ESG into the spotlight, with increased importance placed on the resilience of company business models and non-financial metrics. Market volatility has pushed investors to ask more pointed questions about how their money is being invested. But as Jim discussed, the evolution of ESG has in fact been a multi-year journey that’s been gathering momentum for some time. It appears that we may have reached a critical mass of education and interest from clients and financial advisors on ESG investing.
We view it as a positive development that clients are now challenging fund managers on their approach to ESG investing. Investors are more attuned to ‘greenwashing’, where an investment management firm gives the impression that an investment solution places greater emphasis on ESG issues than it really does. We believe that holding asset managers to certain standards and ensuring that ESG solutions are backed by a rigorous investment management process and infrastructure, is an encouraging sign of maturity for the industry.
Q: Although investors are asking more questions and are more attuned to greenwashing, ESG investing can still be ambiguous. How can investors ensure an ESG investment solution does what it says on the label?
Morris: ESG is broadly defined and there are many different labels — SRI, sustainable investing, ethical investing, impact investing, etc. — so it can be challenging to navigate.
Part of the risk investment management firms face is rushing to place an ESG label on a product, using a simplistic approach, such as using third party research providers ratings to include better ranked companies in the investible universe and exclude the lower ranked companies, then marketing the product with glossy pictures.
Each person’s perspective is very personal, so harnessing or trying to satisfy everybody’s interests in a single product is impossible. Whether you have a focus on sustainability or no fossil fuels, or you’re more focused on social issues and diversity or not investing in tobacco, alcohol or casinos, there are a lot of different criteria that fall under the ESG tent.
Investment management firms should be transparent about a fund’s investment objectives and approach, and that the product is actually meeting the outcomes of investors’ expectations — that it’s credible. If it’s not, you risk losing the trust of your clients.
I’d much rather take our time to have a rigorous investment process in place and be credible about what we say we do, versus just having a good PowerPoint presentation or advertising campaign.
Yungblut: An investor should look for a manager that has an infrastructure in place. How are they approaching their investment decisions? Can they verify what they say they are doing? Are they using an active or passive strategy? Investors should ask themselves what they truly want — how they want to change the world, how they want their money invested — and then find funds that match up.
Investors should meet with their financial advisor and communicate what’s important, so together they can determine the different investment opportunities available and whether they meet their objectives, financial and otherwise.
Some integrated energy companies are doing ground-breaking research on renewables, on lowering their carbon footprint of producing energy and by excluding them, you’re excluding that research."
— Jim Morris, Managing Director, Investment Management, Scotia Global Asset Management
Q: How has Scotia Global Asset Management approached ESG investing?
Morris: We have incorporated ESG factors into the due diligence process for decades, as I mentioned, and we have focused on formalizing our approach to ESG over the past several years, becoming a signatory to the United Nations supported Principles for Responsible Investment (PRI), joining the Responsible Investment Association (RIA) and the Canadian Coalition for Good Governance, and creating an internal ESG investment committee.
Yungblut: From the start, we chose to have our portfolio managers and analysts in charge of ESG integration, as opposed to a separate ESG research team. They are the ones comprehensively analyzing companies and engaging with management teams, so we can be confident that they are considering all material ESG factors in their investment decisions.
We have taken engagement with the companies in which we invest very seriously. Engagement is about planting seeds and sustaining pressure, to have an influence on significant real-world problems and effect change over time.
Seven years ago, I quite clearly remember having a conversation with a leading oil sands producer about the declining outlook for fossil fuels over the coming decades and that it’s an important part of the social balance to use profits from producing oil and fossil fuels to investing in renewables. We had the same conversation with some of the pipeline companies. It resonated and that oil sands producer started investing in carbon capture and continues to be a leader in its field.
Morris: A few months ago, we launched our first product within the ESG framework — the Dynamic Energy Evolution Fund, under our Dynamic Funds brand. This Fund, focused on renewable energy, has struck a chord with investors and financial advisors in Canada, bringing in more than $300 million.
While fossil fuel exclusion is common, this renewable-energy-focused fund doesn’t exclude fossil fuel companies. Some integrated energy companies are doing ground-breaking research on renewables, on lowering their carbon footprint of producing energy and by excluding them, you’re excluding that research. For this Fund there were companies that were relevant and had high ESG scores but didn’t make it into the portfolio because we didn’t think they would be successful in developing energy solutions or even earn an attractive return on capital.
Scotia Global Asset Management also launched a suite of low-carbon funds under the ScotiaFunds brand sub-advised by Jarislowsky Fraser, Limited for our Scotiabank branch customers — so our wide range of clients have choice. These funds apply a low-carbon screen to exclude companies in the energy sector (with the exception of renewable energy companies), as well as non-energy sector companies with significant exposure to the fossil fuel supply chain.
It goes back to understanding what ESG product you’re getting, and what’s underneath the hood.
Q: You mentioned active and passive strategies, how can investors determine which route is best for them?
Yungblut: There’s room for both active and passive investments in an investor’s portfolio, depending on their investment objectives, but there are some key factors to consider.
When it comes to ESG, passive investing usually means relying on ESG scores for security selection. Over the past several years, we’ve seen an explosion of ESG research and service providers, even traditional credit rating agencies now provide ESG research. It’s important to understand that the ESG scores are very subjective. On a single company, scores can vary widely between service providers because there are no objective measures on what best practices are or how to assess certain factors. ESG scores are absolutely not a measure of a company’s investment merits, so we don’t think they’re an effective tool for security selection on their own.
An active approach can dig deeper than just looking at an ESG score, it can help you invest in companies that are going to solve problems for society and that will move the needle over time. An active manager can also look at companies that may not score high now but might be improving by investing in reducing carbon emissions, in renewable products or other innovations, for example. A static ESG score won’t pick that up.
Morris: Another consideration is that with a passive approach your main influence is through proxy voting. As an active manager, if we don’t believe in what a company is doing, we can sell it. When you start selling your security the value goes down, so engagement with companies is going to be more meaningful. As one of Canada’s largest investment management firms, this gives us clout.
Q: Scotia Capital served as an advisor to Dream Unlimited Corp., in the first close of its Dream Impact Fund in March, which secured $136 million of commitments and 1832 Asset Management was an investor. How does the fund fit into your ESG investment strategy?
Morris: The fund is focused on affordable housing and prioritizes inclusive communities and resource efficiencies, so there are a lot of positive social attributes, and at the same time there’s the view it’s going to be a good financial outcome for unitholders in the fund. It is a great example of supplying capital to good actors rather than bad actors and making a difference in the community.
Q: What can investors expect to see next from Scotia Global Asset Management?
Morris: Our focus was getting the infrastructure in place, so we’re taking a thoughtful and meaningful approach to product development. Many firms launch a slew of product, five or 10 funds, and hope something resonates with clients. We’re weighing different opportunities that align with our values and our client base. One of the things we would like to explore is an impact fund. We’re also looking at opportunities in renewable energy on the fixed income and credit side as well as other equity mandates. So please, check in with us as we continue to evolve along with the rest of the industry, society and the world.
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