Mainstream institutional investors are beginning to incorporate ESG factors into their decision-making process, according to a new report from the Canadian Institute of Chartered Accountants (CICA).
“While a few Canadian institutional investors were early adopters of integrating ESG issues into investment decision making, more now appear to be doing so,” the report states. “Further, as capital flows are increasingly global, investment policies and practices in other jurisdictions around the world may, in future, be expected to impact Canadian capital markets and issuers.”
ESG information was originally viewed as being of interest only to “socially responsible” and/or “ethical” investors, the report notes, but there is now evidence that ESG issues are increasingly of interest to mainstream institutional investors in Canada and worldwide.
“Institutional investors tend to have a longer investment time horizon and are increasingly showing signs of interest in ESG factors,” said Lisa French, principal, guidance and support, CICA in a press release accompanying the study. “These investors are expressing their expectations for corporate disclosures beyond what is currently provided in financial reporting.”
The CICA report points out that two significant legal interpretations about the principle of fiduciary responsibility of investment trustees has led to a fundamental shift in consideration of ESG matters in investment decision making. “In particular, in the past, trustees may have argued that it was beyond their fiduciary responsibilities to consider ESG matters in an investment decision. Today, it may be considered a breach of fiduciary duty not to consider such matters.”
“Our view is that ESG issues directly affect long-term investment returns,” the British Columbia Investment Management Corporation states. “As a result, we are active equity owners and encourage positive ESG practices through our proxy voting decisions, direct engagement with companies, and interactions with regulators and policy makers.”
Interestingly, some institutional investors are beginning to look to ESG information not only to better understand risks but also because they see the possibility for a “sustainability alpha” (alpha is defined as returns achieved above the costs of the risks assumed).
Many interviewees in the study pointed to serious shortcomings in the quality of ESG information currently available. They called for the creation of a standard format or template for presenting information that would assist investors in locating the data they want for decision making.
Other investors noted the lack of standardized, comparable, sector-based metrics that are updated regularly (and possibly audited by an independent party).
“Metrics need to be consistently and comparably defined and calculated,” the study says. “This would serve to enhance the usefulness of ESG data points, enabling them to be incorporated with more confidence into models used by fundamental analysts.”
Poor corporate disclosure was also an issue for institutional investors, as was the timeliness of ESG information. “Some companies, for example, provide annual sustainability reports but they are not normally published at the same time as the annual financial reports; other companies only provide sustainability reports every two years or on a less frequent basis.”
CICA says that regulators have a responsibility to ensure that material information needed by capital markets is provided in regulatory filings. Other organizations, such as industry associations, academic institutions, professional bodies and non-governmental groups could assist capital markets by conducting research, developing key performance indicators by industry and working to develop a more integrated framework that would deliver comparable, consistent and reliable information for investors.
For the purposes of the study, interviews were conducted in Q4 2009 with staff involved with ESG analysis at 15 mainstream institutional investors and two service providers. The interviews focused on what ESG information these investors seek, where they obtain it, how they use it and how satisfied they are with the information they obtain.
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