ESG investing

About a week after BlackRock, the world’s biggest asset manager, declared sustainability its new standard for investing, MSCI, the world’s largest index provider, called on all investors to integrate environmental, social and governance criteria throughout their investment processes.

The symmetry in the two announcements is undeniable and unsurprising. Many of BlackRock’s iShares ETFs are based on MSCI indexes, and both firms view climate change as one of the biggest risks facing investors as the world transitions to a low-carbon economy.

BlackRock CEO Larry Fink said climate change would fundamentally reshape finance. MSCI, in its newly released Principles of Sustainable Investing, says pretty much the same thing: “Citizens are demanding action from governments, companies and investors because we face a catastrophic future unless remedial action is taken swiftly. Investors all over the world need to incorporate this new reality into their investment portfolios.”

“There should not be specialized ‘ESG Investing’ on one side and ‘non-ESG Investing’ everywhere else,” according to the MSCI report. Integrating ESG into the investment process, from security selection and portfolio construction to risk management, “is a permanent change to how investment strategies will be constructed and how investments will be allocated and managed,” according to MSCI. The index provider is “calling on all investors to embrace fully and rapidly accelerate this evolution. It is the right thing to do … the smart thing to do and the right time to do it.”

In keeping with that focus, MSCI has also published a report on ESG Trends to Watch in 2020 that will “catapult ESG investing into the next decade.” These are five trends that investors should be paying attention to, according to MSCI.

1. Climate change innovators. While many investors expect “plucky startups” will be the most innovative firms addressing the climate crisis, alternative data sources like the European patent database hint that big, established players are developing an arsenal of climate solutions and may be among the “sleeping giants of a greener future,” according to MSCI. Companies like Toyota and GE, for example, are among the largest filers of low-carbon patents over the past five years.

“In 2020, investors turbocharge their use of alternative data to spot the companies plotting to take a lead in propelling us toward a carbon-free economy,” the report states.

2. New terms for capital. The average company silos its ESG initiatives into the corporate social responsibility office or highlights ESG “to prettify annual reports,” according to MSCI. That will start to change this year as “ESG storms the CFO’s office, elbowing its way onto the bottom line as financiers get creative with ways to bind ESG criteria to their terms of capital, introducing a plethora of corporate borrowers into the wide world of ESG.”

In addition to banks scrutinizing potential borrowers more closely for ESG considerations, “more companies could issue green bonds specifically linked to ESG performance or possibly green shares,” says Linda-Eling Lee, global head of ESG research at MSCI.

3. Re-valuing real estate. Location, location, location has even greater meaning for real estate investments because of the growing number and intensity of wildfires, storms, floods, droughts and heat waves due to climate change. These weather-related developments may also led to more regulation as more cities and regions institute zero-carbon building standards, could affect companies.

“In 2020, greening the property portfolio will move from a nice-to-have reputation-booster to an imperative in the face of a looming ‘brown discount’ if real estate investors don’t kick start their journey to zero carbon,” according to MSCI.

4. A human capital paradox: juggling layoffs and shortages. More companies will be simultaneously laying off workers due to automation and looking to hire talent that is tech-savvy and digitally focused. Workers won’t be the only ones who need new skills. Human resource departments and CEOs “will have to be more nimble to recruit talent,” says Lee.

“In 2020, many more companies will have to become human capital multi-taskers, laying off some workers while simultaneously recruiting scarce new kinds of talent,“ according to the report. “Any lapse could prove disastrous.”

5. Keeping score on stakeholder capitalism. Until now, most publicly traded companies have focused on shareholders and not other stakeholders, such as workers, suppliers and the communities in which they operate, but that is changing, according to MSCI.

There is a growing trend of companies declaring purposes beyond serving shareholders, says Lee, citing the Davos Manifesto of 2020 and the Business Roundtable Statement on the Purpose of a Corporation, which focus on that broader mission.

“In 2020, stakeholders without proxy cards will evolve their activism, joining forces with willing shareholders and using increasingly sophisticated means to size of whether companies really ‘walk the talk’ when it comes to stakeholder commitments,” according to MSCI.

Proxy voters may continue to be more activist as well.

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