Introduction to ESG Investing

Question 1

define ESG investment

Answer 1

Responsible investment

how ESG issues can impact the long-term return

no universal standard for which factors are included under the “E,” “S,” & “G” definitions, may overlap — animals & animal well-being may be considered in both environmental & social factors. How these factors are split depends on who are defining them (for example, for an ESG framework) & stakeholders

Question 2

What is Short-termism

Answer 2

trading practices, where investors trade based on anticipation of short-term price movements rather than long-term value

investors prioritizes maximizing near-term financial results, over long-term value creation.

Question 3

Negative impacts of short-termism

Answer 3

offer rewards but may have adverse long-term consequences

promote bubbles, financial instability & general economic underperformance

ignore factors that are considered long term, such as ESG

Question 4

What is Shareholder Rights Directive (SRD)?

Answer 4

counter short-termism — issued by EU in 2020, requiring investors to be active owners and to act with a more long-term focus.

Question 5

Define Environmental Factors

Answer 5

Pertain to the natural world — include the use of & interaction w/ renewable & non-renewable resources (e.g., water, minerals, ecosystems, and biodiversity).

Question 6

Define Social Factors

Answer 6

Affect the lives of humans— includes the management of human capital, non-human animals, local communities & clients.

Question 7

Define Governance Factors

Answer 7

Involve issues tied to countries and/or jurisdictions or are common practice in an industry + interests of broader stakeholder groups.

Question 8

Define Governance Factors

Answer 8

Involve issues tied to countries and/or jurisdictions or are common practice in an industry + interests of broader stakeholder groups.

Question 9

What is Responsible investment?

Answer 9

incorporate ESG factors into investment decisions & active ownership

consists of mitigating risky ESG practices to protect value

encompasses how ESG factors might influence the risk-adjusted return of an asset

considers the stability of an economy & how investment in & engagement w/ assets & investees can impact society & environment.

Question 10

What are the different types of Responsible Investment?

Answer 10

Socially Responsible Investment
Best-in-Class Investment
Sustainable Investment
Thematic Investment
Green Investment
Social Investment
Impact Investment
Ethical/Values-Driven & Faith-Based Investment — Christian & Shari’a
Shareholder Engagement
Corporate Social Responsibility

Question 11

Can an investment portfolio comprise of more than 1 approach of Responsible Investment?

Answer 11

Yes, approaches are not mutually exclusive

Question 12

What is Socially Responsible Investment?

Answer 12

approaches that apply social & environmental criteria in evaluating companies using a set of criteria with sector-specific weightings. A hurdle is established for qualification within the investment universe, based either on the full universe or sector by sector. This information serves as a first screen to create a list of SRI-qualified companies.

Question 13

What can SRI ranking be used with?

Answer 13

best-in-class investment, thematic funds, high-conviction funds, or quantitative investment strategies

Question 14

What is Best-in-Class Investment aka positive screening?

Answer 14

selecting only the companies that overcome a defined ranking hurdle, established using ESG criteria within each sector/industry.

companies are scored on a variety of factors that are weighted according to the sector. The portfolio is then assembled from the list of qualified companies.

not all best-in-class funds are considered “responsible investments.”

Question 15

best-in-class investment is commonly used in?

Answer 15

Due to its all-sector approach, it is used in investment strategies that try to maintain similar profile/select similar security of a benchmark/target index

Eg: MSCI World SRI Index, which is designed to represent the performance of companies with high ESG ratings and uses a best-in-class selection approach to target the top 25% companies in each sector, has characteristics similar but not identical to those of the MSCI World Index.

Question 16

What is Sustainable investment?

Answer 16

1. Pick assets that contribute to a sustainable economy/minimizes natural and social resource depletion.
2. broad term, used for the consideration of typical ESG issues.
3. may include best-in-class and/or ESG integration, which considers how ESG issues impact a security’s risk and return profile.
4. describe the prioritization of the selection of companies with positive impact or companies that will benefit from sustainable macro-trends.
5. screens out activities considered contrary to long-term environmental & social sustainability, eg mining/burning coal/exploring for oil

Question 17

What is Thematic Investment?

Answer 17

based on needs arising from environmental/social challenges

Question 18

What are the 2 common thematic investments?

Answer 18

1. access to low-carbon energy — Global economic development raised the energy demand + increase GHG emissions, negatively affect climate.
2. access to & efficient use of water — rising living standards & industrial needs created greater water & electricity demand + the need to prevent drought/increase access to clean drinking

Question 19

Are all thematic funds considered responsible investments or best-in-class?

Answer 19

No, it depends on the theme of the fund & ESG characteristics of the investee companies

Question 20

What is Green investment?

Answer 20

broad subcategory of thematic/impact investing

refers to allocating capital to assets that mitigate environmental challenges:
1. climate change
2. biodiversity loss
3. resource inefficiency

Includes
1. low-carbon power generation and vehicles
2. smart grids
3. energy efficiency
4. pollution control
5. recycling
6. waste management & waste of energy,
7. other technologies/processes that contribute to solving environmental problems

Question 21

What are Green bonds?

Answer 21

Considered as Green investment, a fixed-income instrument thats used to raise money for climate & environmental projects

Question 22

What is Social investment?

Answer 22

allocating capital to assets that address social challenges, eg products that address the bottom of the pyramid (BOP), poorest two-thirds of the economic human pyramid. It’s also a market-based model of economic development that seeks to simultaneously alleviate poverty while providing growth and profits for businesses serving these communities, eg:
► micro-finance & micro-insurance,
► access to basic telecommunication,
► access to improved nutrition & health care
► access to (clean) energy.

Question 23

Can Social investing include social impact bonds?

Answer 23

Yes, social impact bonds are a mechanism to contract with the public sector. This sector pays for better social outcomes in certain services & passes on part of the savings achieved to investors.

Question 24

What is Impact investing?

Answer 24

investments made with the specific intent of generating positive, measurable social/environmental impact with a financial return (which differentiates it from philanthropy).

provide capital to address the world’s most pressing challenges, eg investing in products/services that help achieve any of the 17 Sustainable Development Goals (SDGs) launched by the United Nations

associated with direct investments, eg private debt, private equity & real estate.

Question 25

Can impact investments be made in both emerging and developed markets?

Answer 25

Yes

Question 26

What’s the difference between impact investing & philanthropy?

Answer 26

Impact investing: social + financial return expectations philanthropy: social return expectations only

Question 27

What is Ethical and faith-based investment?

Answer 27

investing in line with certain principles — use negative screening to avoid investing in companies whose products & services are deemed morally objectionable by the investor or religions, international declarations, conventions, or voluntary agreements, commonly: ► tobacco, ► alcohol, ► pornography, ► weapons ► significant breach of agreements, such as the Universal Declaration of Human Rights or the International Labour Organization’s Declaration on Fundamental Principles and Rights at Work.

Question 28

What are some examples of faith-based negative screening?

Answer 28

a. Investments consistent with Christian values, avoid firms that 1. facilitate abortion/contraceptives/embryonic stem-cell research 2. involved in weapons production & sale favor firms that support human rights, environmental responsibility & fair employment practices via labor unions. b. Shari’a: honour Islamic religious principles, avoid 1. firms that profit from alcohol/pornography/gambling; 2. companies that pay interest; 3. investments that pay interest; 4. liaisons with firms that earn a big part of revenue from interest 5. investment in pork-related biz

Question 29

What is Shareholder engagement and what does its efficacy depends on?

Answer 29

reflects active ownership by investors — try to influence a biz decisions on ESG matters efficacy usually depends on 1. scale of ownership 2. quality of the engagement & method used 3. whether the company has been informed by the investor that divestment is a possible sanction.

Question 30

What is Corporate Social Responsibility?

Answer 30

company’s commitment to conducting its biz in an ethical way — create long-term stakeholder value

Question 31

What are the benefits of CSR?

Answer 31

1. reaffirm the company’s license to operate in the eyes of gov/society 2. increase efficiency 3. attend to increasing regulatory requirements 4. reduce the chances of fines 5. improve employee satisfaction/productivity 6. drive innovation/new product lines.

Question 32

Pros/cons of incorporating ESG in decision making

Answer 32

1. negative megatrends will create a drag on economic prosperity as basic inputs (eg water, energy, land) become scarce & expensive + health & income inequalities increase instability — affect asset owners, who depend on market returns to pay out pensions & settle liabilities. 2. High levels of income inequality can create social stresses — conflict/violence

Question 33

challenges of incorporating ESG in decision making

Answer 33

1. Fiduciary duty: need to deliver financial returns to their beneficiaries hence cannot do more in terms of ESG since it’s misconstrued as not financially material

Question 34

What are the values in being able to spot winners and losers in a rapidly changing risk landscape?

Answer 34

operate with a longer time frame, with the objective of understanding emerging risks, convert these into above-market performance.

Question 35

Examples of climate-driven hazards on biz.

Answer 35

risks in manufacturing due to water depletion aggravated by climate change — higher costs + suffering from more extreme weather events.

Question 36

How does ESG issues cause assets to be stranded?

Answer 36

assets can become obsolete due to regulatory, environmental, or market constraints. Eg, social conflict related to disruptions to water supplies has resulted in the suspension of US$21.5b in mining projects

Question 37

What are investors modern fiduciary duties?

Answer 37

► Incorporate financially material ESG factors into investment decision ► incorporate sustainability preferences into investment decisions, regardless of whether it’s financially material. ► Be active owners, encouraging high ESG standards performance in companies ► Support the stability & resilience of the financial system. ► Disclose investment approach clearly

Question 38

r/s between ESG investment & financial system stability

Answer 38

climate change as a potential systemic risk

Question 39

What does focusing on investments with a positive impact and/or avoiding those with a negative impact means?

Answer 39

Positive impact: put beneficiaries’ money to good use rather than to invest it in any activity that could be construed as doing harm negative impact: aka negative screening, don’t invest in controversial sectors (eg: arms, gambling, alcohol, tobacco, and pornography) + environmental factors (eg: fossil fuel companies) + governance factors (eg: avoid companies that are in breach of certain business practices)

Question 40

What is Glasgow Financial Alliance for Net Zero?

Answer 40

Asset owners committing to transition their investment portfolios to net-zero GHG emissions by 2050.

Question 41

What are hard & soft laws?

Answer 41

Hard laws: actual binding legal instruments and laws. Soft laws: quasi-legal instruments — not legally binding/weaker binding force + can become hard law (Quasi-legal: not strictly legal, but are enforced by an entity with some legal authority)

Question 42

What is Shareholder Rights Directive (SRD)?

Answer 42

issued by the European Union (EU) in 2020, requiring investors to be active owners and to act with a more long-term focus.

Question 43

Can ESG integration reduce risk/enhance returns?

Answer 43

Yess because it considers additional risks and injects new & forward-looking insights into the investment process.

Question 44

ESG integration can lead to what benefits?

Answer 44

1. reduced cost and increased efficiency 2. reduced risk of fines and state intervention 3. reduced negative externalities 4. improved ability to benefit from sustainability megatrends.

Question 45

Large institutional investors have holdings that, due to their size, are highly diversi- fied across all asset classes, sectors, and regions. As a result, the portfolios of universal owners, as they are known, are sufficiently representative of global capital markets that they effectively hold a slice of the overall market.