Sustainable Investing: Can Markets Save the World?

By
David Blood

Are investment professionals better suited to address the challenges of sustainability than governments and multilateral organizations like the United Nations? According to Janet Ranganathan, vice president for science and research at the World Resources Institute, the answer is yes.

At the 67th CFA Institute Annual Conference in Seattle this week, she made the case for why investment professionals should integrate environmental factors into their investment processes, appearing alongside fellow panelists and investment practitioners David Blood, co-founder and senior partner of Generation Investment Management (pictured), and Stephen Rumsey, CEO of Permian Global, an impact investing firm focused on reforestation projects.

The panelists’ collective message: By practicing sustainable investing, you don’t have to trade “values for value,” as Generation’s Blood put it. Sustainable investing is a best practice and just plain common sense. Furthermore, sustainable investing is consistent with the concept of fiduciary duty. In fact, if you don’t think sustainably as an investment manager you might not be meeting your fiduciary duties, Blood argued.

Sustainable investing is certainly gaining traction — signatories to the United Nations Principles for Responsible Investment (PRI), for example, manage roughly $34 trillion, up from $6.5 trillion in 2006. Definitions are important. According to moderator Roger Urwin, a member of the CFA Institute Board of Governors and global head of investment content at Towers Watson, a good working definition of sustainable investing is “long-term investing that is efficient at its highest return for the risks concerned and intergenerationally fair.” Many investors simply refer to sustainable investing as minding environmental, social, and governance (ESG) factors. Regardless, it is an approach that is distinct from the practice of socially responsible investing, Urwin pointed out.

World Resources Institute’s Ranganathan emphasized the importance of acting now — a call to action that was underscored by the release today of the US National Climate Assessment, in which the scientists declared that “climate change, once considered an issue for a distant future, has moved firmly into the present,” with the effects being felt in all parts of the country.

Ranganathan declared that “infinite growth on a finite planet doesn’t work.” It’s an especially urgent challenge for investment managers because environmental degradation is now a business risk lurking inside portfolios. These risks “reinforce and amplify each other in ways that amplify the impact on earnings and returns,” she said. The food and energy sectors stand out: Both use huge amounts of fuel and water and create massive externalities with regard to human health and air quality, to name just two of their shared effects.

There are other practical considerations for investors. Today we have better metrics —  and non-governmental organizations are holding companies accountable. Thankfully, though, businesses “get” sustainability these days, Ranganathan said. In the World Economic Forum’s Global Risks 2014 report, for example, respondents identified climate change, the water crisis, and extreme weather as high-likelihood, high-impact risks akin to fiscal crises and cyberattacks.

New tools are emerging to help investors understand and manage environmental risks. Ranganathan cited the Aqueduct global water risk tool, which measures, maps, and helps businesses, governments, and other stakeholders size up water risk around the world. Another such tool, Global Forest Watch, is an online monitoring and alert system for tracking forest cover change.

“Mainstream” Protagonist for Sustainable Investing

Can sustainable investing drive better outcomes for investors? David Blood believes that it can. His firm, Generation Asset Management, oversees $10 billion in assets invested across a concentrated global equity fund, a growth equity strategy, and a credit strategy, all of which systematically integrate ESG factors.

One key consideration is risk management, Blood said. If you own a business for a long time, it makes sense to know what could go wrong. By thinking about companies’ governance practices and incentive structures, for example, investors have a better chance of “avoiding terrible outcomes.” A second key factor is cost: Understanding which companies can manage more efficiently, avoid turnover, and recognize resource constraints is critically important.

When it comes to using sustainability to drive competitive positioning, profitability, and ultimately shareholder returns, however, the jury is still out, Blood acknowledged. Even so, with a track record of more than nine years, Generation’s global equity strategy is delivering on its pitch to investors: The firm has aimed to produce 300 basis points of outperformance per year on a rolling three-year basis and, to date, has delivered roughly 500 bps on an annualized basis.

Investing in Forest Conservation

Permian’s Rumsey focused his remarks on the merits of large-scale conservation and recovery of natural forest, the focus of his firm’s impact investing initiatives. From a sustainability perspective, the case is clear-cut: According to Rumsey — who grew up in Africa and witnessed firsthand the negative consequences of forests being ripped down — non-extractive forest management is the most cost-effective, efficient, and scalable climate change mitigation option. His firm is helping to pioneer a new asset class by tapping investor capital to fund large-scale reforestation projects that generate carbon credits, which can be sold for profit.

 

 

Global CO2 levels have been rising dramatically, Rumsey pointed out. Between 1800 and 1957, levels rose from 280 parts per million (ppm) to 315 ppm. In May 2013, in Hawaii, CO2 levels surpassed 400 ppm — far outside the normal range over the last 800,000 years, he said, putting global agriculture systems at risk, among other devastating potential consequences. Although the situation is grim, the most pernicious fallout from climate change can still be avoided, he said. Preserving natural forests, particularly in the tropics, helps reduce emissions and is instantly effective.


Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

Photo credit: W. Scott Mitchell

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