We ask industry experts...will ethical investing become redundant now governance is so important for companies?
David Gait, manager, First State Global Emerging Markets Sustainability fund
For an investor seeking out opportunities across global equity markets, the contrast between East and West is noticeable. A cursory glance through a recent 450 page offer document from an Asian company hoping to list revealed a number of worrying corporate governance issues.
The owners had previously been banned by the regulator from accessing the stockmarket for two years because of stock price manipulation. The company had 172 outstanding litigation cases covering 31 pages, significant conflicts of interest, three different auditors in the past three years and several serious outstanding environmental issues. Yet the offer was oversubscribed 39 times.
So while governance standards have indeed become important for companies listed in developed markets, the rest of the world still has a long way to go. In the UK, all institutional investors are to be subject to a ‘Stewardship Code,’ which aims to improve the quality of engagement between shareholders and the companies they own. Would an Asian stewardship code help? It seems unlikely. Signing up is usually a fairly painless process and requires little follow through.
What all good stewardship needs is the right mindset. Buying a share means buying not only a piece of paper or electronic ticker, but part of a real business with all the rights and responsibilities that go with this. Get this right and everything else follows; get it wrong and investment becomes little more than a game of speculation. And speculation and stewardship are not natural bedfellows.
Ian Burger, corporate governance officer, Newton
In answering the question it is worth remembering that, stemming back to the first UK Companies Act in 1844, governance has been an essential factor in protecting investor value. Since this time, and up to this year’s new UK corporate governance code, the frequency of debate surrounding the governance of companies has increased. Recent economic events have not necessarily increased the importance of governance but they have increased the attention it receives. Also the breadth of interested parties has widened.
Creating an investible universe by way of ethical investing is most frequently based on positive or negative screening criteria as it relates to social or environmental matters. Traditionally, governance has not been high on investors’ agendas as a screening criterion. It is also highly unlikely that governance considerations will override the environmental and social considerations held by an investor. Individual environmental, social and governance considerations are wide ranging, interdependent and satisfy a unique need.
For example, a church–based investor that excludes gambling companies from its investible universe is unlikely to alter this exclusion policy, irrespective of how well-governed the gambling company is.
The answer to the question of “will ethical investment become redundant?” is, simply, no. The screening of an investible universe of companies against an investor’s ethical criteria fulfils specific needs, relating to environmental, social and /or governance matters.
George Dallas, director, corporate governance, F&C
Governance is certainly a critical area of focus for both companies and investors. However, the ongoing focus on governance does not mean that ethical investing will become redundant. If anything, one could make the opposite argument: namely that ethical investing will continue to grow and develop further.
This is in part because, notwithstanding all the attention paid to corporate governance since the inception of the Cadbury Code in the 1990s, corporate governance remains problematic in many companies, and there are no “solutions” to guarantee good governance – or good ethical performance for that matter.
Even though the introduction this year of the new UK corporate governance code continues the process of positive incremental change in governance standards for British companies, investors have no assurance that full compliance with this code means companies are necessarily behaving ethically or avoiding business activities that run counter to acceptable social, environmental or ethical standards.
Investors will continue to invest their money ethically, both to bring their investments into accord with their own personal beliefs—as well as to ensure that companies they invest in do not destroy shareholder value by taking significant financial, operational and reputational risks with questionable ethical behaviour.
Vipin Ahuja, manager, Allianz RCM Global EcoTrends fund
In our view, SRI has evolved from being an approach that matches investments to ethical values, to an approach that considers the impact of long-term changes in the business environment on companies and their share price. There is also a growing realisation that companies seeking to generate super-profits in the short-term, at almost any cost to society, are not necessarily good investments.
“In the field of thematic investing, funds focused on the provision of solutions to environmental challenges (reducing CO2 emissions, reducing waste, driving energy efficiency etc) have definitely grown in popularity with investors. Allianz RCM Global EcoTrends is a good example here. As the notable risks associated with irresponsible environmental stewardship have become increasingly apparent, environmental regulation has supported the investment case for companies operating in the environmental technology sector.
Furthermore, a number of technological advances have made these companies competitive alternatives to existing solutions. Investment opportunities in this space have been particularly evident in Europe, where we have seen the most progressive adoption of climate change-related regulation (e.g. the Emissions Trading Scheme), and Asia, where you could argue some of the most extreme negative impacts of poor environmental management are increasingly evident, supporting the case for the provision of environmental solutions. For these reasons, we do not believe ethical investing will be made redundant as we will see this sector become more prominent in a broader sustainability and thematic investing space.
Richard Marwood, senior
portfolio manager, AXA
Investment Managers
The short answer to this question is no. It is important for all funds, be they ethically focused or more mainstream, to pay close attention to the corporate governance practices of the companies they are invested in.
This is central to ensuring these companies are being managed effectively, and in the best interests of their shareholders. Indeed, one of the single-most value-eroding risks that shareholders face is that posed by weak corporate governance and poor standards of practice. You need only mention the names Enron, WorldCom, even Madoff, to understand the full gravity of what major failings in corporate governance can lead to.
However, with this said, it is important to recognise that scrutinising corporate governance and ethical investing are very separate issues. I see governance as being about monitoring how well a business is run, whereas ethical investing is about monitoring what a business does. As an example of this, many ethical fund clients would not wish their money to be invested in a weapons manufacturer, even if that company had world-class corporate governance.
Accordingly, far from becoming redundant, I see ethical investing as an area likely to experience significant expansion over the next decade, progressively chipping away at the market share of more traditional investment fund options.
Craig Jeruzal, investment analyst, SVM Asset Management
While some commentators may revel in the obvious irony that increasing awareness of governance issues may make those very funds who originally championed such goals redundant, I find the argument unconvincing. Ethical investing is such a broad church, covering a wide range of funds, that it would prove almost impossible for companies to meet the criteria required by all investors.
Governance is clearly of vital importance to companies, however the role of policing this is equally important. Ethical fund managers are in a unique position to fulfil this role while also protecting the economic interests of shareholders.
Although such views may be considered heretical to those investors who believe that returns are the ‘be all and end all’, many ethical investors place equally as much emphasis on social and environmental matters as performance. Irrespective of any improvements made to their corporate governance and behaviour, a brewer will never be a suitable investment for an investor who does not wish to hold shares in a company involved in alcohol production!
From a social and environmental perspective, there is no such thing as a ‘perfect’ company. In many years of analysing companies from this perspective, I have yet to come across one that ticks every box. Although it is undeniably a good thing that governance is now such an important factor, there is always room for improvement. Ethical investment managers will continue to encourage companies to take these steps and prove rumours of its death have been greatly exaggerated.
