Leading adopters are embedding governance-based engagement, with an expectation of improved long- term returns While non-adopters wait on the evidence of ESG investment outcomes, leading adopters are moving further down the path of integrating ESG principles into investment allocation and management decisions, including through active engagement with or participation in investee company decision-making. Larger sovereigns with internal asset management capability were most confident in their ability to execute their ESG strategies, due to their higher levels of engagement with their investments (figure 25). These larger sovereigns noted that direct engagement benefits substantially outweighed the cost of external advisers and representation; notably - The largest sovereigns drew a clear line from long- term investor influence on corporate structure and executive remuneration to ‘active’ investment performance through the cycle - Sovereigns felt able to better represent the interest of government or non-government stakeholders through direct engagement - Finally, for sovereigns committed to ESG, direct governance engagement provided a mechanism to proactively drive an ESG agenda in future investment and management decision-making
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Future uptake of ESG integration requires more performance data, while growth in active ownership requires third-party assistance
The adoption of negative screens is encouraging
for ESG advocates; however, the majority of current
non-adopters are unwilling to move further in the
absence of strong objective evidence of positive investment risk/return outcomes from ESG investing relative to cost. ESG adopters overwhelmingly observe a positive differential in long-term returns
(with 70% of respondents perceiving an increase
in returns from ESG as seen in figure 26), and
many adopters explained that they were seeking to
integrate systematic ESG risk measurement into the
investment process. However, ESG user and non-user respondents acknowledge that there is a need for robust data on integrated ESG strategies, which can only be addressed through continued measurement of the impact on performance.
Despite uncertainties around the impact of ESG integration, there is a growing consensus among all respondents on the positive effect of governance on investment returns. However, there are many challenges to developing and managing an active ownership strategy:
- Many sovereigns have not defined their governance principles and were wary of demanding levels of transparency from their investees that the sovereign fund itself did not provide
- The adoption of active ownership requires hiring subject matter experts, and many investment sovereign respondents were intent on using recruitment budget to expand internal investment teams
- Certain sovereigns did not hold shareholder voting rights across the majority of their securities and were wary of the costs involved in switching these investments for those with voting rights
- Many respondents stated that they were challenged by lack of engagement from consultants and asset managers
While smaller sovereigns have been dissuaded from
investment engagement by these cost restraints,
evidence of benefits in returns and representation
of sovereign interests will be key in driving greater
uptake of sovereign active ownership. With some
sovereigns looking internally to invest, based on the ability to embed government-based engagement, asset managers must respond by offering sovereigns the opportunity participate in the stewardship of companies by means of voting rights.
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