Lee Clements
Sustainable investment is becoming a more conventional investment strategy, as the market moves past barriers such as data provision and evolving regulations. But this mainstreaming brings new challenges: sustainable investment products and approaches are now becoming subject to more conventional types of investor scrutiny, around strategies, methodologies and risk and return.
These are some of the findings we have gleaned from FTSE Russell’s 2024 sustainable investment asset owner survey, our eighth annual examination of global asset owners’ sentiment towards and approaches to sustainable investment. We surveyed more than 300 investors around the world, diversified by location and size, to better understand how they are thinking and acting when it comes to sustainable investment.
Regulation, data recede as issues
The clearest development in this year’s survey is that headwinds that asset owners faced from sustainable investment regulation and data have largely abated. Last year, 50% of respondents cited concerns about the about availability of ESG data and the use of estimated data as barriers to increased sustainable investment adoption; this year, that figure had fallen to 22%.
Similarly, 37% complained about the lack of standardisation in ESG data, scores and ratings – this year, that figure was 20% (see Figure below).
Top barriers to increased sustainable investment adoption across all asset classes
Regulation is also proving to be less significant a barrier to the uptake of sustainable investment. In the 2023 survey, 25% of respondents said that regulation did not help them meet their sustainable investment goals “very well” or “at all”. This year, the percentage had fallen to 10%.
In fact, a majority of respondents said that they are satisfied with the quality of ESG/sustainable investment regulation in every major market relevant to them, except India and Brazil (see Figure below). For those answering on European Union and the United States, 72% and 67% of respondents agreed with the statement.
Regional satisfaction based on quality of ESG/Sustainable investment regulation
These two trends may be connected. Growing regulatory intervention has increased the provision of high-quality ESG data by companies, has improved standards among ESG data providers, and has increased standardisation across the market.
A shift to passives
Another proof point for greater investor comfort with sustainable investment is the finding that, for the first time, more investors are implementing sustainable investment strategies in their passive portfolios than their active ones (by 66% to 61%).
The previous preference of investors for active managers to pursue sustainable investment reflected how those managers moved first in offering sustainable investment strategies: index providers have since caught up and are clearly winning the confidence of investors. This is also likely to be driven by a combination of cost and scale. Asset owners who are moving large parts of their portfolios to sustainable investment strategies are more likely to favour lower-cost indexes than more expensive active managers.
Fund flows support the findings of our survey. We have seen significantly greater inflows to passive than active sustainable investment funds over the previous 12 months.
SI Bond and Equity flows by type
Sustainable investment on its own terms
However, as the sustainable investment market overcomes some of its idiosyncratic issues, it faces new challenges. Investors are increasingly considering sustainable investment strategies and products as they would any other investment theme – and want to better understand the underlying methodologies, risk profiles and the appropriate asset allocations.
We are seeing this in the European funds marketplace, in particular. Now 61% of fund AUM are designated as Article 8 or 9 funds, under the Sustainable Finance Disclosure Regulation (SFDR), meaning that they integrate sustainable investment characteristics to a greater or lesser extent.
The survey showed that the main barriers to increase sustainable investment adoption raised by respondents can be considered as more ‘traditional’ concerns, that investors would be likely to raise about any investment strategy. They included concerns about sustainable investment methodologies, concerns about taking on additional risk and questions about how to determine the best strategy or combination of strategies.
Some challenges remain
But the investors we surveyed tell us that there remain some challenges created by regulation. There are still definitional issuers faced by providers – as shown with the European Securities and Markets Authority’s guidelines on the names of funds using sustainability-related terms, and the SFDR. Addressing these can divert resources from offering or managing investment products.
In addition, just over half (51%) of respondents claim the biggest challenge to meet regulatory requirements is the inability to align their investments with regulatory requirements around sustainable investing/climate. For example, alignment with the EU’s Paris Aligned Benchmark requires an index to deliver an annual decarbonisation of 6-7%; our research has found that, while the top 25% of companies are broadly in line with that objective, the median reduction is at zero. This makes it challenging for broad-based indexes to demonstrate alignment, challenging for broad-based indexes to demonstrate alignment.
However, overall, this year’s Asset Owner Survey shows a market that is becoming increasingly mature, with investors engaging with sustainable investment on its own terms. It is coming of age as an approach to investing that promises to surface risks that have hitherto been overlooked by the broader market and identify opportunities from the emerging green economy.
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