Evaluating ESG when there isn’t a global standard

ESG factors may be part of stock analysis or be the basis upon which a fund manager will or won’t invest in stocks if the company doesn’t meet predefined grades.

Fund managers are increasingly seeing that a focus on ESG investing is also contributing to managing and mitigating risk in their portfolios. In this sense, it’s becoming very popular. One issue though, is that ESG investing is still very undefined. Simply put, ESG investing means different things to different people, and anyone can use the term. Without a global standard, and sometimes a lack of quantifiable outcomes, ESG remains an incredibly broad way to describe any investments.

For larger asset managers and institutional investors, ESG is increasingly a ‘package deal.’ The three factors are likely to play a part in any stock investment, and fund managers are documenting how they assess and track ESG factors in the stocks they invest in – even if the ranking is only internal. Depending on a fund manager’s investment strategy, they may also choose not to invest in stocks if a company scores highly in two of the three factors but doesn’t make the minimum grade on an evaluation of all three.

For private funds, ESG factors are just as important, but a fund manager’s objectives are likely to be more specific on generating returns and mitigating risk and possibly more concentrated. From the outside, it can appear that there’s less of a focus on ESG in the private fund sphere, but it’s just as important. We also see that for private funds, there may be more of an approach where one ESG factor is a particular focus, rather than stocks meeting a minimum requirement for all three factors. That said, risk is always taken into consideration, so proper governance is typically a given for any stocks, and then focusing on social or environmental investments come on top of that.

A need for financial instruments that support ESG

In a world where everyone is ESG investing, it’s challenging for investors to know what that really means. In particular, Fund managers who are very dedicated to green investing are finding it hard to stand out amongst the many asset managers who have an ESG focus, but in practice are less rigorous with their investment philosophy and screening for environmental factors. The Guernsey Green Fund certification sets apart the most dedicated ‘green’ fund managers and asset managers. Investors too, benefit from a more standardised approach.

Financial instruments that formerly support ESG investing are increasingly popular because they set a framework that has to be followed to benefit from a standardised certification or approval. Guernsey’s Green Funds are one such solution.

Aside from seeking a return for investors and mitigating risk, a Guernsey Green Fund (‘GGF’) is established to make a positive environmental impact – hence the ‘green’ certification.

More than a loose objective, however, to qualify as a GGF, at least 75% of a Guernsey fund’s assets and value must meet specific green criteria, which includes investing in sectors such as renewable energy, efficient energy generation, energy efficiency, agricultural, waste, wastewater and transport.

The GGF structure itself is flexible and can take the form of a private fund, open-ended, closed-ended, registered or authorised fund domiciled on the island. Existing fund structures are eligible to apply for the GGF certification if they meet the qualifying criteria.

A more defined future for ESG?

At some point, I think the fund industry will need some standard or benchmark for ESG so that funds can be compared more easily, and investors can make more informed choices. That said, I think even today’s shift to incorporate more ESG investing of any kind is something very welcome in the context of our changing world.

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