Steer clear of anti-social investing: Taking account of the ‘S’ in ESG

For Professional Clients Only

This article was approved as a financial promotion on 14 February 2024 by Buck Consultants (Administration & Investment) Limited, who is authorised and regulated by the Financial Conduct Authority.

Although environmental, social and governance (ESG) considerations are becoming increasingly critical to investors, social factors are arguably being overlooked. We are seeing E and G face heightened scrutiny – fuelled by events like COP28 and regulatory pushes for improved corporate governance and transparency. But could that be at the expense of the S?

What are social factors and why are they important?

Principles for Responsible Investment (PRI) defines social issues as:

It’s not just ethics at stake here. Social factors can be financially material to an investment. Poor social practices can lead to legal issues, reputational damage, deteriorating relationships with suppliers and customers, and poor employee wellbeing.

Think about the recent press on the Post Office scandal. Hundreds of workers were prosecuted for ‘stealing money’ based on evidence from a faulty computer system, and many innocent lives were ruined due to the imprisonments and fines imposed. Both the Post Office and the UK government (who owns the Post Office) are shelling out millions in compensation, and employee relations clearly suffered, which may lower productivity. Shares of Fujitsu, the manufacturer of the computer system, lost almost 4% of their value after their Chief Executive apologised for the company’s role in the events.

As another example, in 2023, the UK Government publicly named over 200 businesses that failed to pay their staff the minimum wage, which impacted around 63,000 workers. These businesses (which included some big household names) were made to pay around £7m in wages and fines, directly impacting their bottom line.

The extent of social issues extends globally too. Amazon workers walked out in a strike across 30 countries on Black Friday 2023, protesting working conditions, pay, and health and safety.

Given these risks, considering social factors when selecting investments can improve the long-term performance and sustainability of your portfolio, and therefore should be integrated into your investment management.

Further, we expect more regulatory scrutiny for all types of asset owners going forward, meaning that appropriate actions, policies and disclosures should be implemented by decision-makers.

Industry news regarding social investing

• Taskforce on Social Factors consultation
  In October 2023, the Taskforce on Social Factors released a consultation on its guide to help the pensions sector incorporate social factors into investment decisions. It covers how pension schemes, asset managers and investment consultants can integrate social risks and opportunities to secure long-term risk adjusted returns for members.It noted that ‘many pension funds and trustees have shied away from engaging on social issues due to a lack of clarity on how to gauge materiality and a lack of knowledge or confidence,, and also emphasised that ‘the nature of systemic risks means they cannot be avoided or mitigated by diversifying.’
• ICSWG engagement template
  In response, the Investment Consultants Sustainability Working Group (ICSWG) updated their engagement template, which is intended to enhance asset owners’ and investment consultants’ ability to assess the stewardship activities of their asset managers. It asks managers to detail their engagements on topics including human rights, diversity and inclusion and employee safety.As part of the ICSWG, Buck encourages investors to fully consider all aspects of sustainable investment, and seeks to drive change from within the industry.
• Diversity & inclusion questionnaire
  As well as ensuring that your asset managers are engaging with their underlying investments, management teams can be assessed for ESG attributes, including social ones. For example, the Diversity Project’s Asset Owner Diversity Charter has produced a Diversity and Inclusion Questionnaire, which asset owners can send to fund managers annually to gather diversity information and assist improved DE&I within the managing team.
• TPR Trustee diversity guidance
  It’s not all about assessing investment managers, however. In early 2023 The Pensions Regulator (TPR) set out guidance for promoting diversity in Trustee boards. Pension scheme trustees and employers have a vital role as stewards of their members’ assets, and according to TPR ‘a diverse governing body improves decision-making.’ This applies to all investment decision-makers: if you want to make better decisions, ensure that you consider diversity, equity and inclusion within your own team as well as within your investments.

What should I be doing?
There are several methods that asset owners can employ to ensure they’ve fully accounted for social factors in their investment decision-making.

1) Investigate and evaluate your investment managers’ commitment to social responsibility

First, you or your investment consultant should assess the ESG, Social Responsibility and Engagement policies of your investment managers, and crucially evaluate whether they have a good track record of implementing these. Some managers may even allow their clients to vote on specific issues themselves (provided the clients have the processes, support and desire to do this), such as through BlackRock’s Voting Choice offering and Tumelo’s voting technology. If you’re in pooled funds, some investors set an Expression of Wish based on their agreed investment beliefs, which asks managers to take these beliefs into account. However, pooled fund managers are in no way bound to take these on board.

2) Implement your views with your manager of choice

If you’re selecting a new manager for any reason, or looking to update arrangements with an existing manager, there are several ways to ensure your assets reflect your investment beliefs with respect to social issues. You could do this by screening out companies/issuers/countries that don’t satisfactorily meet your values, such as excluding companies with human rights violations, or companies that derive more than 5% of their revenue from weapons.

An alternative approach could be tilting your portfolio in favour of social issues. Instead of excluding, you can invest in a fund that invests more heavily in socially responsible companies, and incentivises those companies who have better social attributes compared to others in their sector. At Buck, our ESG team prefers this approach over screening as we believe it demonstrates better research and evaluation of financially material considerations.

In either case, consistent and impactful engagement/voting should be a priority.

You can implement your preferred investment approach via bespoke/segregated investments (where assets are managed purely on behalf of one client), or via a pooled fund which you assess to be adequately considering social factors. Pooled funds may be more achievable for smaller investors, and our research team is able to advise clients on which ones we feel are strong performers in the ESG space.

If you want to take it further than financial materiality, impact funds aim to have a positive ESG impact on the world and economy. For example, you could potentially invest in a community/social housing fund, which provides housing for people who can’t afford open-market housing. Pension schemes must align investments with their fiduciary duties, and therefore they may decide they can only consider ESG if it is financially beneficial to members (although the DWP guidance states that non-financial matters can be considered in certain situations). We would recommend getting a legal opinion before investing pension assets in an impact fund. As a result, impact funds could be more suitable for charities, endowments or other institutional investors.

3) Ongoing good practice

Of course, none of these approaches can remove investment or ESG risk completely, but if you believe that social risk can be financially material, you may draw the conclusion that trying to reduce your exposure to social risk factors could be beneficial.

Once you’ve finalised your investment approach, it’s good practice to document your decisions. This is important as it will allow asset managers, pension scheme members, charity donors and endowment beneficiaries to understand what you’re doing and why. Items like your Statement of Investment Principles, Engagement Policy and ESG Policy can set out what you’re trying to do, and you can use them to track whether you’re meeting your aims in future. Various investment industry initiatives can be signed up to to as a further demonstration and validation of your approach, such as the UK Stewardship Code or the UN PRI.

At Buck, we have a dedicated and experienced research team who assess the ESG capabilities and commitment of fund managers. We also have a specialized ESG committee to ensure our clients have effective support in achieving their responsible investment goals.

Despite the growing emphasis on ESG factors, the social elements of responsible investing can be overlooked. To avoid anti-social investing, institutional investors, asset managers and investment consultants can assess the social responsibility credentials of their current investments and managers, and ensure that actions taken align with their values. Lastly, it’s important to establish good practices to uphold these values in the long term. This way, you can make sure that you don’t neglect the ‘S’ in ESG.