Investing with a conscience

Investing taking into account environmental, social, governance and sustainability issues is gaining ground worldwide. Where can you make such investments here in South Africa? reports FUNDS THAT INVEST RESPONSIBLY

When you put money into an investment such as a unit trust fund, does it concern you that your money might be used to buy shares in companies of which you do not approve? Perhaps a company harms the environment, or perhaps it exploits its workers, with its top managers earning hundreds of times the income of its lowest employees. Perhaps it produces goods that are detrimental to a healthy society.

More and more people, particularly among the “millennial” generation, are “investors with a conscience”, with concerns such as these influencing the investments they choose. There is also mounting pressure on institutional investors, such as pension funds, to channel money into investments that are beneficial to society and the environment.

The past decade or so has seen a strong rise in “socially responsible investing” (SRI), and with it the emergence of investment practices that take into account a company’s effect on the environment, how it treats its employees, how responsible it is to the broader community in which it operates, how ethically it is governed, and its long-term sustainability.

In 2006, the United Nations’ Principles for Responsible Investment (PRI) were developed by an international group of institutional investors that realised the increasing relevance of environmental, social and governance (ESG) issues in investing. These principles bind signatories to incorporate ESG issues into their investment processes, seek disclosure on ESG issues in the companies in which they invest, and work together to promote ESG awareness.

INVESTMENT CODE

In 2012, South Africa produced the Code for Responsible Investing in South Africa (Crisa), along much the same lines as the PRI, supported by many of the major players in the financial services industry.

These developments – in conjunction with increased regulation – have resulted in many of the big corporations that dominate our lives reassessing how they govern themselves and how they interact with the world around them.

In theory, an asset manager investing your money may adhere Many large asset managers, such as Old Mutual, Allan Gray and Prudential, subscribe to the Code for Responsible Investing in South Africa (Crisa) in their investment philosophies, believing that it is to the long-term benefit of their clients.

Managers may screen the companies they invest in or, through shareholder voting power, influence companies that are failing to uphold their environmental, social and governance (ESG) responsibilities to “do the right thing”. Two smaller managers are particularly active in this regard.

Sitting comfortably alongside the funds these managers offer is a range of sharia-compliant funds from various managers, which invest according to the moral principles enshrined in Muslim law, although these funds are not directed only at Muslims.

And if environmental issues in particular are close to your heart, there is a “climate change fund” and a “green” exchange traded fund (ETF). • Community Growth Funds is wholly owned by Unity Incorporation, which represents six trade unions. It outsources the management of its Community Growth Equity Fund to Old Mutual Investment Group and its Community Growth Gilt Fund to FutureGrowth, while Unity Incorporation undertakes social research and screens companies to provide a mandate for the portfolio managers.

“Our socially responsible investment (SRI) track record speaks for itself, having successfully managed to Crisa and support ESG principles. But to what extent would the manager actively select or reject companies according to ESG criteria? And what about your primary goal, which is to maximise your returns? Are ESG-focused companies a better investment than those focused on short-term profits, for example? It seems logical that the former would be more sustainable and profitable over the long term, but does research support this?

In a paper titled “Determining a range of SRI vehicles since 1992. Since inception, we have given our socially and environmentally aware investors a choice of vehicles through which to grow and manage their wealth, while contributing to the economic sustainability of South Africa,” Community Growth Funds says on its website.

The equity fund’s top five holdings, as at December 31, 2016, were Naspers, BHP Billiton, Steinhoff, Barclays Africa and Anglo American. • Element Investment Managers. Element was the first South African investment manager to sign the UN Principles for Responsible Investment in May 2006 and was instrumental in the establishment of Crisa.

Terence Craig, the chief investment officer at Element, says many local asset managers have paid lip service to Crisa in the past. He says a quick gauge of their commitment is whether, according to the code, they are voting at shareholder meetings and publishing their voting records. He says Element is highly active in this regard, publishing both its voting record and its voting and proxy policy, with explanations of where it voted against a resolution.

Craig says: “While ESG and corporate-governance teams are becoming more commonplace, particularly globally, they are often held at arm’s length from core investment activities and investment teams. Element’s ESG research is integrated into our investment research and portfolio construction process.”

Element’s wide range of funds ESG signals in the South African equity market”, Tracy Brodziak and Leanne Micklewood of Old Mutual Investment Group say that although South African listed companies have comprehensive financial data, insightful ESG data is not widely available, nor is there a consistent reporting framework.

Brodziak and Micklewood looked at research conducted by Credit Suisse bank in the Australian share market. It showed that “strong management of environmental include its Earth Equity Fund and three sharia-compliant funds: the Islamic Equity Fund, the Islamic Balanced Fund and the Islamic Global Equity Fund. The Earth Equity Fund’s top five holdings, as at December 31, 2016, were Astrapak, Anglogold Ashanti, South 32, Reinet Investments and Altron. • Sharia funds. Because the charging of interest is prohibited under Islamic law, such funds do not invest in conventional money-market or bond instruments, or in financial institutions such as banks. They also don’t invest in companies that have high levels of debt or those involved in “vice” activities, such as gambling, alcohol, tobacco and pornography.

Apart from Element’s shariacompliant funds mentioned above, asset managers offering these funds include 27four, Kagiso, Oasis, Old Mutual, Stanlib and Sentio. Absa’s issues ‘pays’ and weak management of environmental issues ‘costs’ at the portfolio level”.

Governance analysis revealed similar results, Brodziak and Micklewood say, while social data showed “that companies that have overall the weakest management capabilities and highest exposure to social issues significantly underperform all other companies”.

The research found that poor social performance ‘costs’ at the portfolio level. However, the NewFunds Shari’ah Top 40 ETF tracks the FTSE/JSE Shari’ah Top 40 Index. • 3 Laws Capital. In 2013, this boutique asset manager with a “unique focus on sustainable investing” launched the 3 Laws Climate Change Equity Prescient Fund, which invests in resourceefficient South African companies. It does so in partnership with Osmosis Investment Management, a Londonbased asset manager focused on environmentally friendly investing, which provides the research and screening process.

The fund’s manager, Arthur Johnson, says resource efficiency (a combination of energy intensity, water intensity and waste intensity) is determined through the analysis of largely under-utilised public data, measuring how effectively companies transform their use of resources into economic value. converse did not hold: “There was no benefit from a strong social score at the portfolio level.”

Using limited ESG data (for only four years), the pair conducted similar research on South African companies. “While the timeframe is still too short to see definitive trends, the results appear to mirror those of international findings,” they say.

Brodziak and Micklewood say that, in years to come, as data increases and they in a position to assess ESG factors through

The fund’s top holdings at the end of January 2017, apart from its 16-percent investment in the Osmosis MoRE Equity Fund, were Naspers, British American Tobacco, Remgro, Nedbank and Anglo American. • CoreShares Green ETF, which was launched in 2011, tracks the Nedbank Green Index, which comprises selected shares from the 100 largest companies on the JSE.

The companies are selected on environmental credentials and liquidity criteria. Environmental credentials are determined with reference to the United Nations register of Clean Development Mechanism projects in South Africa and the Carbon Disclosure Project database, the CoreShares website says.

The top five holdings, at December 2016, were Kumba Iron Ore, Harmony Gold, Sibanye Gold, Nedbank and Investec. different investment cycles, their goal is to develop a higher level of confidence in ESG signals in the investment process.

“This aligns with our view that sustainability is reshaping the competitive landscape, and that companies that are able to respond to this trend and innovate early will reap the benefits of stronger growth prospects, enhanced operating efficiencies, a stronger social licence to operate, enhanced staff retention, lower cost of capital and, ultimately, a stronger and longer competitive advantage.”

BETTER RETURNS

Terence Craig, the chief investment officer of Element Investment Managers, a pioneer of SRI in South Africa, provides further evidence of the advantages for investors. He says: “The reality is that ensuring companies focus on material ESG issues can drive greater returns for investors, as is highlighted in a number of research papers.

“According to a March 2015 study by Harvard Business School, covering the 20 years from 1992 to 2012, using the materiality framework of the Sustainability Accounting Standards Board, companies that address material ESG issues and ignore immaterial ones outperform those that address both material and immaterial issues by four percent a year and outperform companies that address neither by nearly nine percent a year. Clearly, investors do not need to compromise investment returns as responsible investors.

“An irony is that South Africa faced the full effect of shareholder activism focusing on social issues in the late 1970s and 1980s. Investors were instrumental in forcing American companies to pull out of South Africa and not do business with an apartheid state. Ultimately, this pressure contributed to long-term fundamental change for the better in our country,” Craig says.

martin.hesse@inl.co.za