Raising the bar on responsible investment – are managers making the grade?

Every two years, LCP undertakes a major survey of investment managers’ responsible investment practices to supplement our in-depth discussions with managers about their RI approaches for specific products. We have just published the analysis of our sixth survey, conducted in the second half of last year.

We asked questions spanning ESG integration, climate change and stewardship, and received responses from nearly 150 managers. We use the survey to provide an overall assessment of managers’ firmwide RI practices to our clients as well as to collect granular data to support our client advice. This complements our ongoing manager research programme which includes in-depth discussions with managers about their RI approaches for specific products.

Overall, there have been significant improvements in managers’ RI practices since our 2020 survey. However, investor expectations, market practices and regulatory requirements are evolving rapidly, so managers need to work hard just to keep up with the pace of change. We’ve amended our survey questions and scoring accordingly. We’ve set the bar higher this time and, as a result, fewer managers have been awarded the top grade (four on a one-to-four scale), although pleasingly slightly fewer managers warranted the lowest grade.

RI expertise has increased, although more leadership from the top is needed

We are reassured to see that, among the managers we surveyed, there is now almost universal acceptance of the importance of responsible investment and the benefits it can bring for investors.

Almost all managers we surveyed are now PRI signatories – 96%, up from 66% six years ago – and only 1% said that ESG integration is not an important part of their investment approach, down from 8% two years ago. Their reasons for embracing ESG have become more financially oriented (see Chart 1). 92% aim to improve long-term outcomes for their clients and 75% believe ESG factors can affect risk-adjusted returns over the short to medium term, whereas just 9% say they only integrate ESG considerations when this is expected by clients, down from 24% two years ago.

Chart 1 – Which of the following statements describe your approach to ESG integration?

We saw an encouraging increase in the proportion of RI specialists, which we defined as investment professionals with a relevant qualification or whose role is over 50% ESG and/or stewardship. These specialists comprise over 5% of investment professionals at 47% of managers, up from 27% of managers two years ago and 15% of managers four years ago. An increasing number of investment professionals have ESG and/or stewardship in their job description and receive mandatory RI training, both of which we view as necessary for embedding RI throughout managers’ investment practices. However, disappointingly, there are still 33% of managers with no-one at board level responsible for RI oversight and RI training is only mandatory for 23% of boards. Leadership from the top is vital in ensuring a firmwide culture that supports and embraces ESG and stewardship. Our results suggest that many managers have room for improvement here.

Managers must focus on improving climate practices

The weakest area of managers’ responses was climate change, despite the huge attention given to this topic over the past year, both within and beyond the investment industry. Significant improvements are needed to ensure that the risks and opportunities to our clients’ investments are being addressed properly, and that the investment industry is pulling its weight in the race to net zero (which is the only way of avoiding the major physical risks that investors and society otherwise face). Nonetheless, we are encouraged by the high level of industry collaboration to develop the frameworks, tools and data to facilitate this, with many managers taking an active role.

So far, only 44% of respondents have signed up to the Net Zero Asset Manager Initiative and their work to meet this commitment is still at an early stage. However, the Initiative is only one year old and growing rapidly. We are heartened by the momentum that is building in this area and are optimistic that we will see rapid improvements. To encourage greater take-up, from 1 April 2022, we will require managers to be signed up to the Initiative for their products to be eligible for an LCP “buy” rating. We regard this as a minimum standard and will test the quality of managers’ plans to fulfil their commitments through our ongoing research programme.

Unsurprisingly, our survey showed big gaps in climate data availability and usage. We asked managers whether they are using climate-related metrics across the majority of their strategies. For transition risk metrics, only around 60% said yes for listed equity and non-government credit strategies. The proportions were even lower for other asset classes and physical risk metrics. This is worrying given the widespread relevance of climate risks, although managers are working hard to improve data availability and reporting capabilities. They are projecting significant increases in the proportion of strategies for which they’ll be able to report basic climate metrics to clients by the end of 2022.

Managers recognise stewardship’s importance, although many fall short of best practice

Another major area where we consider managers need to improve is stewardship, not least because we regard stewardship as the main tool available to address systemic risks of increasing concern such as climate change, inequality and loss of biodiversity.

The headline results of this part of our survey were strong. Nine in ten managers surveyed use stewardship to improve long-term investment outcomes for their clients and only 1% said stewardship wasn’t an important part of their investment approach (see Chart 2). 95% of respondents said they collaborate with other investors and 90% undertake engagement with policymakers or regulators. However, the picture is mixed once you drill into the details. For example, 42% of managers do not have a formal escalation policy and less than half set objectives for all engagements they undertake. Only 38% are currently signatories to the UK Stewardship Code 2020 which sets out best practice in this area.

Chart 2 – Which of the following statements describe your approach to stewardship?

The results were generally better for voting than engagement, with most listed equity managers meeting our basic voting expectations. Similar to our last two surveys, on average they exercised 97% of votes and voted against management, or abstained, at least once at 35% of AGMs in the year to 30 June 2021. Disappointingly, 16% said they rely completely or a lot on proxy voting advisors’ standard recommendations, broadly unchanged from two years ago.

Asset owners should engage with their managers on responsible investment

Our survey shows that, despite the significant strides taken over recent years, there is still much room for improvement in RI practices across the industry, with wide variations in standards between managers. Asset owners therefore cannot assume that their managers do RI well and must probe the information they receive. Even where their manager compares favourably with peers, they should investigate the actual practices adopted for their mandates and encourage continued improvements in key areas such as climate change and stewardship. In this way, they will help raise the bar on responsible investment and drive better outcomes for their ultimate beneficiaries.

You can read the full report on our findings here. To find out how your managers scored in our survey, and for support in engaging with them on any weaknesses identified, please speak to your usual LCP contact.

A shorter version of this blog has been published on the ESG Clarity website.