Not so long ago, Environmental, Social, and Governance (ESG) themes appeared to generate little interest in the investment community. No more.
Investors are now analysing ESG criteria equally amongst other metrics to assess companies and funds prior to investing. Investors want transparency over ESG credentials, and this has generated a new complexity in the reporting space but, thankfully, it won’t be forever.
ESG reporting is particularly complex today because an agreed standard has not yet emerged. Whilst there are various models available, none are really considered complete or mandatory and consequently report content varies by provider, making direct comparisons difficult. If the same calculation methodology isn’t used, or the same metrics not shown, potential investors are left partially blind when assessing ESG performance or in a review against agreed mandates and ESG targets.
Traditional monthly and quarterly investment reports have matured over the years, and investors see lots of commonality between different providers. The metrics are the often the same, commentary usually covers similar themes, and aside from corporate branding, they all look fairly similar and are easy to understand and compare.
Conversely, ESG reports currently differ. Asset managers, in alignment with their investors’ wants and needs, are producing their own version of ESG reporting that reflects their view of what’s relevant and, due to no industry standard having yet emerged, may be creating them outside of the “normal” reporting process and team.
But sooner or later, like we’ve seen in the past, ESG reporting standards will emerge and be adopted within the industry that brings some consistency and uniformity to all providers. Regulators seeking to protect consumers may establish guidelines that prescribe how such metrics should be calculated and displayed. In the UK, we’ll see the beginnings of that when new disclosure requirements for FCA-authorised investment managers are introduced later this year. Whilst mainly focused on disclosure of strategy, policies and processes by the provider, they will also be complemented by more targeted disclosures at the fund or portfolio level.
At this stage, however they’re unlikely to be that prescriptive because of data quality and availability issues. A company’s ESG impact goes beyond the walls of its premises so the underlying data for ESG is either not known, difficult to calculate, or sometimes subjective. When an entire supply chain, the industry, geography, and sectors they are active in contribute to it, how can an accurate assessment be made? Applying quantitative metrics to a single company therefore might be deemed by some to be a fruitless or at least an unfair exercise and consequently, ESG ratings lean towards “exposure to” rather than “evidence of”.
Take a look at the model put forward by FTSE Russell (available here).
Pollution & Resources
Human Rights & Community
Health & Safety
However, over time we predict that reporting standards will emerge, that consistency will prevail, such that, in time “core ESG” may be simply assessed and compared between funds and providers. This will allow investors to make direct ESG comparisons between funds, in the same way they do today, for example, for the assessments and direct comparison of risks on a UCITS KIID.
We also think that specialist ESG reporting will continue to exist, alongside more industry wide ESG reporting. Where fund managers and funds have a particular ESG feature or policy, these specific and perhaps unique policies and measures will be used to drive the highly specific ESG reporting.
We also note that due to the relative newness of ESG reporting, compared with the traditional “portfolio valuation” that much more use is made of colour and form in order to convey and communicate the investment messages. Across all the variations we see today there is a constant theme of using eye catching colours, innovative shapes, designs and images in order to communicate more effectively with the reader. This is a good thing, and perhaps some of the more “traditional” reporting elements within the pack could do with a review and a face-lift?
Until we get reporting maturity, and when we do, the easiest way to ensure efficiency in that process is through partnership with us by putting in place an operating model that will support you today and in the future. Reporting as a Service® was designed to minimize the impact of regulatory and content change and will continue to deliver your requirements with no increase in headcount, whilst reducing operational burden.