Although responsible investment and environment, social and governance (ESG) approaches have become more prevalent over recent years, that doesn’t mean the environment has become any less complex. “It must be very confusing for charity trustees at the moment partly because of all the jargon,” notes senior investment director, charities at Investec Wealth & Investment (UK), Michael Turner. “On top of that, it’s an everevolving, dynamic environment. Government policy is constantly changing, with the dates on electric vehicles being rolled back and new licences being awarded for drilling for example. From a charity point of view, it looks like the goalposts are constantly being moved, which can be really confusing when trying to align investment with your values, while at the same time securing a stable return.”
Moreover, the layers of subjectivity around ratings and ESG scores present challenges. “Many charities view ESG investment as a combination of risk management and values-based investing because a lot of charities conflate ESG investing with ethical investing. But the two are not the same thing. Ratings companies, which provide quantitative scores on companies’ ESG risks, and which clients often like to see, are not looking at it as values-based investing at all; they’re looking at risk management. It is beholden on us as investment managers to make sure that the client understands that there is this inherent contradiction.”
The mechanics of ESG integration
“We have been told by clients that a lot of investment managers say that they integrate ESG risk factors into their decision-making but then struggle to explain how they do it,” says Turner. To cut through this confusion and get a clearer picture of a company’s value, Turner says that is essential to ensure that integration of ESG is mechanistically built into evaluations of companies, engaging both internal and external resources. “A company’s share price is based on its long-term cash flows, discounted back to present value. Depending on the level of ESG risk we’ve identified, by combining ratings agency scores with our own analysis, we can then translate that into a higher discount rate, in effect reducing the price we are willing to pay for that company to compensate for the additional risk. This naturally excludes a lot of companies with high ESG risk scores early on.”
Turner says this differs from a high-level exclusionary policy because it doesn’t start from “the investment manager imposing its moral views on clients”.
“But having said that, you do tend to find a high correlation between a traditional exclusionary approach and stocks within our portfolios because our valuation adjustment process means that companies with high ESG risk scores don’t tend to get through our quality threshold. So, you get a similar result, but by taking a different approach. If a client wants to apply specific exclusions, as a segregated manager we can do that, but we often find that we don’t have many, if any, of those stocks in the portfolio anyway. This shows that our mechanistic integration works in practice and that we are taking on board additional ESG risks.”
Financial return is imperative
This non-exclusionary approach can help trustees and charity finance professionals to remain flexible and navigate the ever-shifting sands of ESG investment without risking return. “We’ve seen a bit of a change in mindset among trustees and a kickback in some cases against the severity of exclusionary policies,” says Turner. “Some charities signed up to more stringent ethical policies because they believed that equated with their values, but others signed up because it was outperforming. As a result of 2022 – when oil was up and almost everything else was to varying degrees down – the priority for most clients shifted back to securing an adequate financial return so they can provide for their beneficiaries. Recent events have helped refocus the mind that financial return is imperative.”
When talking to charities, Turner says it is always an evolving conversation, partly because of changes among board personnel who can have very different views and also because of the changing investment environment. “We are seeing some trustees now considering if they have been too prescriptive; asking whether their decision-making is introducing additional risks that in certain environments might provide a lower financial return. The benefit of being a segregated manager is that you can have these conversations and adjust accordingly. I would say that most clients are in the pragmatic camp when it comes to fossil fuels for example. Their priority is to avoid those fossil fuel companies that are most at risk of becoming stranded assets and focusing on those that are better equipped for the energy transition.”
This reflects Investec’s fundamentals when it comes to managing funds, suggests Turner. “As an investment manager, we are looking at anything that is poor business practice, whether it’s overly exposed to carbon emissions, or other issues around social or governance factors. They are important in terms of trying to avoid valuation traps, but also in trying to make positive investments. But you have to make sure that equates to a suitable financial return on a risk-reward basis.”
Engagement has a role to play in driving positive investment, adds Turner. “We make sure that the engagement in which we partake can be demonstrated to be helping share prices. Ultimately, we engage with companies where we think engagement is most needed and most likely to be successful.”
Keeping stakeholders in mind
Turner has some tips for charities on how to approach responsible investing. “The first thing is you should seek guidance from your investment manager. The updated CC14 guidance from the Charity Commission is also helpful, so we would encourage people to look at that.
“But it’s really about making sure you have your stakeholders and charity in mind when making these decisions. It goes back to core principles. It is about trustees looking through the eyes of the charity and being cognisant of reputational damage which might harm the image of the charity or impact donations. Ultimately, it is about making sure that your investments are not in direct contravention with the people you’re trying to help or the objectives of your charity.”
An interview with Michael Turner senior investment director at Rathbones
Fast facts
- Over £3bn in charitable AUM
- Manage AUM for over 1,100 clients
- Top 10 manager of UK charities, with over 80 years experience
- UN PRI and UK Stewardship Code signatory
What we do
At Investec Wealth & Investment (UK), we are responsible for preserving and growing the wealth that is entrusted to us by over 1,000 charities; supporting them in delivering their mission. Sustainability is core to our investment approach and we will aim to deliver your financial goals, while ensuring your values are protected. We will take the time to understand your charity and can provide local charity specialists through our 14 regional offices across the UK.
