Talking to clients about ESG and sustainable investing is an ideal way of gaining a better understanding of their core values and beliefs, while deepening the financial planner/client relationship. Jayson Forrest explains.

Today, most financial planners know responsible investment as a broad-based approach to investing that factors in people, society and the environment, along with financial performance, when making and managing investments.

The responsible investment sector is one of huge diversity, encompassing a wide range of investment approaches, with two of these – Environmental, Social and Governance (ESG) and Sustainability – being favoured by both financial planners and consumers alike.

Put simply, ESG investing is the systematic and explicit inclusion by investment managers of ESG factors into the investment decision-making process. Similarly, sustainable investing involves investment in themes or assets and programs that specifically relate to improving social and environmental sustainability (for example, safe and accessible water, sustainable agriculture, green buildings, a lower carbon tilted portfolio, and community programs).

No typical client

Emilie O’Neill – the Co-head of ESG and Equities Analyst at Perennial Partners – is not surprised by the growth of ESG and sustainable investing, as investors increasingly seek to align their capital with their personal values and beliefs.

But the stereotypical view that investors attracted to ESG and sustainable investing are Millennials is wrong, says Emilie, with this style of investing appealing to a broad church of investors.

“While we are seeing a lot of interest by Millennials, we’re also seeing this interest come from all investor types. They want a better and more sustainable future. They recognise the world is moving to become more sustainable and they want exposure to those investment tailwinds and sustainable thematics,” says Emilie.

It’s a view supported by Chris Lang AFP^® – a financial adviser at Ethical Choice Investments – who says ESG and sustainable investing is incredibly important for his clients, while at Pitcher Partners Investment Services, Kellie Davidson CFP^® – Partner, Executive Director and Representative – has found that typically, it’s the younger generation of clients who are more focused on ESG and sustainability, and who in turn, influence their parents to take the same path.

Yet, regardless of client type, Chris still conducts conversations about ESG with every client, which he confirms, has always been positively received. He adds: “Talking about ESG is a great way to get to know your client and gain a better understanding of their core values and beliefs. It also deepens the planner/client relationship.”

In fact, when it comes to client conversations, Chris believes ESG is no longer optional for planners and instead, a topic that should be discussed with every client from the outset.

“As financial planners, we plan and invest for our clients’ futures. If we aren’t considering ESG, then are we really working towards our clients’ long-term interests? We are doing our clients a disservice if our recommendations don’t consider the real world impact investments can have on their future wellbeing.”

Don’t ignore ESG

With the overwhelming majority of Australians now expecting their savings (87 per cent) and superannuation (86 per cent) to be invested responsibly, it’s hardly surprising that three in four people are willing to consider shifting their banking and superannuation to an alternative provider that invests responsibly.

Emilie believes financial planners who choose to ignore this trend, risk losing clients if they are unable to demonstrate an adequate commitment to this style of investing.

“You need to have at least a general understanding of what you’re able to recommend to your clients. That means finding companies and funds that are having a positive impact from an ESG perspective. You can find companies on the ASX that are delivering real world positive outcomes, but you need to do your research.”

Chris agrees. He refers to a recent RIAA survey², which showed that two-thirds (67 per cent) of Australians believe ethical or responsible banks perform better over the long-term. It also found that four in five Australians thought Australia’s financial sector should consider social and environmental impacts, even if it means that some financial returns may be lower.

“The majority of Australians are now aware they can deploy their investments to seek solutions for major world issues, not just returns. I’m not sure why any financial planner would ignore such a significant trend,” Chris says.

However, that’s not to say that investors have to sacrifice returns to invest ethically and sustainably. For Kellie, this is a complete misnomer. “As part of our education approach with clients, we explain that their capital can be invested for good and generate a return. Neither are mutually exclusive, they go hand-in-hand,” she says.

Chris agrees, adding that by incorporating values into investments is most likely to enhance returns. “RIAA provides annual research on this, where it compares returns between ESG and standard funds. The research has consistently found that fund managers that incorporate ESG into their investment decisions do as well as, or better than, other fund mangers over most time periods.”

ESG implementation

The first step in the process of building an ESG and sustainable portfolio for clients at Ethical Choice Investments, begins with taking the time to understand the values and preferences of each client in relation to investing.

This includes discussing a range of issues with clients, which enables Chris to gauge the appetite of his client – both negative and positive – for particular investments and sectors. The next step is to match a client’s values to a suitable portfolio, which is appropriate based on values, risk and timeframes.

“Depending on a client’s preferences and values, ESG investing is very personal for each individual. So, developing an appropriate portfolio requires a collaborative approach,” says Chris. “Understanding the client, their values and goals, is the absolute foundation on which to build your recommendations. By doing so, a planner is able to utilise their skills and knowledge to create a solution that matches the client’s values and objectives.”

It’s a similar approach undertaken at Pitcher Partners, which Kellie says is very client-driven. The business has embedded some responsible investment questions within its initial client fact-find questionnaire. The questions then become more granular depending on how important this type of investing is for clients. This approach helps to tease out the types of issues clients are particularly passionate about, like climate change and tackling poverty.

“This approach allows us to explore client preferences and drivers,” says Kellie. “From those responses, we are able to construct portfolios that specifically tap into those preferences. After that it’s all about ongoing monitoring of the client’s preferences and investments, to ensure they line up. So, this is never a ‘set-and-forget’ approach to investing.”

Pitcher Partners uses a combination of managed funds, ETFs and direct investments in its clients’ ESG and sustainable portfolios, depending on the individual preferences of clients.

While Emilie agrees that planner/client collaboration is important when developing appropriate ESG strategies, she also believes it is important to have a conversation with the fund manager to understand where they fit in within the sustainable landscape.

For example, Perennial has a dedicated ESG strategy which invests in small and mid cap companies that are involved in shaping a more sustainable future. The strategy is available through two funds: Perennial Better Future Trust, and Einvest Better Future Fund.

Both funds screen out companies that receive any revenue from the manufacture, distribution or mining of tobacco or alcohol products, weapons or armaments, thermal coal, uranium, oil or gas, gambling, pornography, toxic pesticides, old growth forest logging, or the live export of animals.

“In 2020 and 2021, Perennial was recognised by RIAA as a ‘Responsible Investment Leader’, which recognises Perennial’s commitment to responsible investing. This is something we are hugely proud of,” says Emilie.

“So, when considering a managed fund, planners should look at a manager’s underlying holdings and its criteria for screening companies, and decide if this is something your clients would expect within a sustainable portfolio. Don’t just concentrate on screening out the bad, but also look at the positive impacts companies are having in helping to shape a better future.”

How green is green?

When considering products and funds to use, Chris recommends financial planners look for external validation from organisations like RIAA, which lists ESG certified products. These products have been approved by RIAA as having implemented an investment style and process that systematically takes into account ESG and sustainability considerations.

“Knowing that these certified products and their investment process has been reliably verified by an independent third-party, provides planners with confidence and removes a lot of doubt caused by ‘greenwashing’. This is when companies deceptively try to persuade planners and consumers that an organisation’s products, aims and policies are environmentally friendly.”

Emilie agrees: “We’re seeing a lot of stocks come to market that are trying to paint a sustainable story. Planners need to look through that ‘greenwashing’ and conduct genuine ESG analysis to find those stocks that contribute positively to a better future.”

To cut through this ‘greenwashing’, Chris turns to ethical fund ratings – or ‘green leaf ratings’ – to ‘separate the wheat from the chaff’ when determining the true ESG credentials of companies and investments. The ‘green leaf ratings’ are offered by the Ethical Advisers Co-operative (EAC), and seek to remove the marketing spin of superannuation and fund managers, assisting planners and investors in making choices for their investments that are in line with their ethical values.

“All of the funds rated by the EAC are making an effort to invest in more environmentally sustainable, ethical and socially responsible investments,” says Chris.

Other resources Chris turns to when putting together an ESG portfolio for clients, include: Sustainable Platform (an independent Sustainable Development Goals and ESG data provider); Ethos ESG (a values-based investing tool); Evergreen Responsible Investment Grading Index (a tool to find funds and build portfolios that meet the values of investors, while comparing the portfolio to sector averages); and Sustainalytics (provides analytical research of listed companies based on their ESG performance).

“I find these resources all have varying degrees of success in helping cut through the marketing and greenwashing of funds, but there’s no magic solution,” he says. “At the end of the day, when what’s being said doesn’t line up with what’s being executed, then companies and fund managers need to be called out on this.”

Pitcher Partners also subscribe to Sustainalytics and is a member of RIAA, which provides its research and advice teams with a wide range of tools and resources to use. The business also has a six-person research team that undertakes the due diligence and monitoring of funds.

“Our research team is also charged with the responsibility of then keeping the adviser group up-to-date with what’s happening,” says Kellie. “The research team is constantly passing on new information, which helps to build up the knowledge of the advice team.”

While Perennial also refers to the EAC’s ‘green leaf ratings’, it relies more on its internal scoring mechanism to rate investments, which is driven by its large in-house investment team. The ESG&E score utilised at Perennial is a proprietary scoring system, where each company is given a score for ESG performance, as well as a score for company engagement.

Emilie says the investment team has an enormous capability to understand stocks, which includes engaging heavily with the management of companies to better comprehend their positioning on ESG and sustainability.

A no-brainer

When it comes to ESG and sustainable investing, both Chris and Kellie are in agreement: It’s a ‘no-brainer’. It’s an investment approach that clients are increasingly demanding, as they seek an ‘investment for purpose’ as part of their portfolio.

Chris adds: “And while there is a lot to learn, you will be amazed at how understanding clients are if an ESG strategy is not done perfectly from the outset. That’s because they will appreciate their investments are moving in the right direction.

“Your clients may even surprise you by providing their expertise and market knowledge to help you navigate the investment options. There’s now a wealth of knowledge out there to tap into. It’s a great time to start!”

Footnotes