Sustainable investing more important than ever

The Covid-19 pandemic that in less than six months has ravaged the world economy is not completely under control yet and scientists fear a new wave could bring further havoc. But the crisis has already caused profound short and long-term consequences.

Lockdowns have forced the majority of workers to stay at home, unemployment rates skyrocketed, consumer spending dropped across almost all industries and inequalities within societies and between countries have increased. Not surprisingly though, the impact of the pandemic on the environment has been a positive one, with a drastic reduction of greenhouse gas emissions. But the short term benefits, Jennifer Wu and Vincent Juvyns argue in an article for J.P. Morgan, “come with an important loss of momentum in the fight against climate change. The COVID-19 crisis has led to the cancellation of many climate demonstrations and, more importantly, to the postponement of the COP 26 Climate Conference to 2021.” Furthermore, “The short-term reduction in greenhouse gas emissions could also be overshadowed by a rapid rise in fossil fuel consumption as economies start to reopen and recover over the medium to long term – with low energy prices potentially exacerbating the increase.” (https://am.jpmorgan.com/gb/en/asset-management/gim/adv/insights/market-insights/on-the-minds-of-investors/covid-19-esg-matters)

The crisis sparked by the pandemic has inevitably changed the priorities of governments in many countries, forcing policymakers to focus on crisis management, with financial resources redirected towards supporting their economies, independently from ESG (Environmental, Social and Governance) requirements. One of the key questions emerging in the post crisis debate is what kind of capitalist model will emerge for the future and how we can restore the health of our economies, making them more inclusive and averting at the same time an environmental disaster. In this respect and for many analysts, the recent pandemic has represented a valuable stress test for the global system. Market flows suggest the pandemic has not slowed down the momentum for sustainable investing, according to Wu and Juvyns. Even before the health emergency, the announcement by BlackRock chairman and CEO Larry Fink to put sustainability at the heart of the world’s biggest asset manager’s investment strategy made headlines. The move reflected the feeling of the majority of international investors, increasingly convinced that profits and ESG can go hand in hand. ESG investing looks at non-financial information as well, including how companies deal with environmental, social and governance issues, trying to assess potential risks and rewards associated with an investment. A recent article on the Financial Times asks whether investors remain optimistic on this subject and quotes a presentation made by Linda-Eling Lee, head of ESG research at MSCI, at a video conference hosted by the Washington based CFA society. And while the answer is “yes”, there are good reasons to remain optimistic. “Firstly, the Covid-19 crisis has put a renewed spotlight on the “S”, or social issues: investors will increasingly watch how companies handle these. Secondly, this systemic health risk is likely to spark more public concern about other systemic risks, such as the environment. Third, data from MSCI show that corporate bonds and equities with high ESG ratings have markedly outperformed the index recently”. (https://www.ft.com/content/7a945219-bd89-450d-9ec8-fdeb8ba3a0da)

The crisis has helped policymakers, investors and companies realise once more that collaboration is what is best to lead us through crisis, that we are all part of something bigger and businesses can and need to play a positive role in society. Good governance is key, as shown by those companies who fared better during this last downturn. “Defensive capital allocation strategies – continue Wu and Juvyns - have been rewarded as the level of cash on the balance sheet has suddenly become a more interesting metric for investors than the dividend yield – which in many cases will be reduced anyway due to decreasing earnings and/or regulatory pressures. Indeed, markets are pricing dividend cuts of 22% in the US, 30% in Japan, 45% in Europe and 51% in the UK. As a result, companies with a higher governance score have outperformed their peers globally this year by a wide margin”. In the near term, urgent needs and competing interests might re-direct immediate financial investments into re-starting the economies. But in a longer-term horizon, analysts expect this latest crisis to increase the commitments towards ESG targets. “We expect ESG to continue to be a differentiator as society works through the crisis. While managing financial stress, there’s an obvious temptation to cut costs – to reduce employee support programmes or abandon commitments on environmental management, for example,” writes Paul LaCoursiere, global head of ESG research, Aviva Investors, “But, when we eventually get to the other side of this situation, we think the market will look positively on companies that have not sacrificed responsibility in the face of a crisis.” (https://www.avivainvestors.com/en-gb/views/aiq-investment-thinking/2020/05/covid-19-impact-on-esg/)

Companies that have done a good job before the crisis in terms of governance and ESG targets are likely to come out more resilient from the Covid-19 test. Their example will also prove that focusing on ESG is less a distraction and a luxury and more a smart choice, destined to pay dividend in the medium and long term. For institutional investors the world over, the wide consensus is that ESG practices will be an even more important factor in determining their decisions.