Jane: [00:00:02] Hello and welcome to the LSEG Sustainable Growth Podcast, where we talk to leading experts about sustainability and finance. I'm Jane Goodland and this week I'm talking to Tim Hodgson, who's the co-founder of the Thinking Ahead Institute, which is a research and innovation network founded by Willis Towers Watson. And they work with some of the world's largest asset owners to understand and influence the investment industry, mobilising capital for a sustainable future. Now, I've known Tim for nearly 20 years, and I learn something new every time that we speak, so I'm really looking forward to our chat. But before we get started, a quick reminder to follow us so you don't miss any future episodes. And also, please do rate us on Spotify, Apple Podcasts or any other platform you use.
Jane: [00:00:48] Well. Hello Tim Hodgson, it's so nice to see you. Thank you very much for coming on the show. It's been a while, but I've been really looking forward to our chat today.
Tim: [00:00:57] Oh, it's great to see you again, Jane. Thanks for having me.
Jane: [00:01:00] Great. So, we're here to talk about the Thinking Ahead Institute, which perhaps people may not have heard about before. So, let's start by just doing a bit of a 101 and explain why did you set it up in the first place and what's it all about?
Tim: [00:01:14] Well, if I can go into really ancient history. A colleague and I, Roger Irwin set up what was called the Thinking Ahead Group back in June 2002.
Jane: [00:01:23] That is ancient history.
Tim: [00:01:26] It is ancient history. So, it was a small research and development team within WTW investment business where we didn't have client responsibilities and were free to work on what we thought were the challenges to come. Fast forward in time. Longest job I ever held down. Longest job that kept me interested and stimulated. But in the Dan Pink framing from his book ‘DRIVE’, there was lots of autonomy, plenty of opportunity to pursue mastery. But because thinking ahead is kind of a given, by the time anything that we came up with was widely adopted, we'd moved on several times. And so, I was looking to try and up my purpose quotient that Dan Pink talks about. And so, I looked around and I decided that the investment industry that I was very proud to have joined and to have been around in had kind of morphed somewhat from a profession to a business and was very clearly shifting quite quickly from defined benefit to defined contribution. So, we were going to end up with investment businesses running the money of defined contribution pension members who are owning the investment risk. And I just slightly worried that who was going to stand up for the end saver effectively. So, the Thinking Ahead Institute launched in January 2015, initially with a purpose to try and change the investment industry for the benefit of the end investor. We had a five year review in 2019 or so. And so that was when we became very conscious of the coming climate emergency, as well as biodiversity loss and social inequality. And so, we kind of marched to a mission statement of mobilising capital for a sustainable tomorrow. And so, we think that is still serving the end saver. But really, the idea of the Thinking Ahead Institute is to stand for some sort of public good that benefits both the end saver and actually us in the investment industry.
Jane: [00:03:33] Okay. So, you think about sustainability in its holistic sense as well as in some detail way but also about things like organisational effectiveness and how investment really can work ultimately to the ultimate benefit of those who put the money in in the first place. And this is all super relevant now because obviously times have changed in terms of the pension landscape. Hugely. Haven't they gone from the days of defined benefit? For those who perhaps enjoyed the benefits of the defined benefit regime, and obviously now we're now firmly anchored in defined contribution, which is a totally different setup, I suppose. Good. Okay. So, you're thinking long term, you're thinking big picture. And then crucially, then you're trying to apply those learnings and that research into the practicalities. And that's with your members. Right. The Institute has, I think at the last count, something like 52 asset owner and investment manager members, if that's what you call them, with around about 16 trillion assets under management or something. So, to your website.
Tim: [00:04:40] Yep.
Jane: [00:04:41] But tell me, why is it so important that actually this pursuit of yours is very much with the asset owners and asset managers rather than something separate? And also, can you share some examples of actually how that becomes practical?
Tim: [00:04:53] Gosh. Okay. There's a lot in there.
Jane: [00:04:55] So maybe take the first question first. So why are you working with the asset owners and investment managers?
Tim: [00:05:01] Well, if you take my purpose statement, that this is for the benefit of the end saver, the asset owner is closest to the end saver of all the kind of organisations involved in the investment value chain. So, they are most principle like. While other members of the investment chain, whether that be asset managers, whether it be service providers, whether it be index developers, consultants, fine. It's all wonderful that we apply our ingenuity and our creativity to come up with better ways to invest money, or better ways to serve the end saver. If the asset owner does not allocate capital to those new ideas or new products, then nothing really changes. So essentially it always has to come from the asset owner. So, they very much are the start of the value chain. Without them setting out to create value, then it doesn't really matter what the rest of the chain is doing. So yes, we work with asset owners. And I was very interested in your summary and framing. We often think of a Venn diagram. So, the work of the Institute is to try and create better investment strategies, better organisational effectiveness, and actually better societal legitimacy. And the really interesting stuff is kind of in the intersections and ideally the intersection between all three. So back in the day, we did a lot of work on factors, smart beta we've done things on sustainability and integration and climate dashboards and the like, but we've done a lot of projects with asset owners looking at organisational effectiveness. So, governance arrangements effectiveness of executive teams, harder to find a sponsor for a societal legitimacy project. But hopefully that's enough by way of example.
Jane: [00:07:00] I don't know, are you able to share the names of some of the asset owners that you're working with, or is that Secret Squirrel?
Tim: [00:07:06] We tend not to speak about individual organisations. And my colleague Roger Irwin while a very valued member of Thinking Ahead has a split role. So actually, also works for WTW. So it is in the public domain that in the past he has worked with CalPERS on their investment beliefs. It's in the public domain that he has worked on governance review for New Zealand Super. One of whom is a member of the institute, the other isn't. So hopefully that's indicative.
Jane: [00:07:40] So we're talking asset owners in the context of large pension funds or sovereign wealth funds. So, the really big asset owners, right?
Tim: [00:07:49] They tend to be. Yes. And it's not an exclusive thing, any asset owner is very welcome within the institute. And we will try and accommodate anybody who has the interest. It tends to be that the larger asset owners have larger internal teams and therefore have some spare capacity. not much, to engage with the institute to co-create research, to apply the research. So hopefully other asset owners would get the trickle down benefit as, say, WTW takes ideas to their client base. And actually, a lot of our stuff goes into the public domain. So, I'd love it if other asset consultants were talking to their client, but I understand why they might not want to.
Jane: [00:08:37] Well, I was just about to say about this, I often check in on your website because a lot of the research is there for, for anyone to dip into and going back a really long way as well. So, there's some really, really interesting pieces on there. And research is obviously a really core part of the Institute's work. And just looking at what you've got on your research agenda for 2024 makes me tired. I need a lie down after I've had a look at what you're trying to tackle all incredibly legitimate things to be working on and so we can't really go through it all. But if you were to pick out something that perhaps you're either, I don't know, most interested in this year or you're really keen to sort of get your grey matter really engaged on what's on your agenda that perhaps is most interesting for you.
Tim: [00:09:27] Oh, Jane. I don't think you're allowed to have a favourite child, but I'll do my best. So, there are, I want to mention at least two because it gives slightly a flavour of the breadth of what we get up to. And I'm even going to cheat when I do that! So, I'm quite passionate about climate. I think the climate risk that we face is much, much larger than most people believe or give credit to. And that actually came out of a very deep dive that we did last year into climate scenarios like the IEA and GFS, net zero emissions. Those scenarios are generally priced to perfection. We think there's an awful lot more risk lurking within climate than is generally accepted. But that's last year. You asked about this year. Following on, there are two initiatives that I want to throw out with regard to climate. One is we scared ourselves last year that we think the majority of investment organisations probably don't have sharp enough, accurate enough, deep enough beliefs about climate, climate risk and its implications. We are working with a working group of members to come up with a survey tool that an investment organisation can use within its team, they then come together in the form of a workshop to discuss. And the idea of that workshop is to provoke a go no go decision as to whether to re-examine investment beliefs. And part of that would be any organisation that's made a net zero commitment. Probably a good idea to re-examine it. How's progress in the light of it. So passionate and excited about that. But we've also got another working group on climate transition. But this one is slightly different. Last year was a very deep dive. This is shallow and wide so. What can we learn by looking at biodiversity loss, society, things like a just transition, circular economy, adaptation and then circle back to mitigation because actually a climate transition plan probably needs to take account of and be working on lots of those things as well. If we only pursue a reduction in carbon emissions, we might do it unjustly, we might not adapt sufficiently, etc., etc. So passionate about climate, there's a couple of different things running, but also on the organisational effectiveness side, we are well into, we've presented some preliminary results and we're into kind of like the second refining phase of the analysis of an asset owner peer study. So, this is literally looking at the largest asset owners in the world. There are 26 of them in the study. And a deep dive. So, the survey yielded close to 50,000 data points, one on one interviews with all of them, a London summit to show the initial learnings, which led to a lot more ideas in the next phase, but really understanding that the top management problem that these large asset owners have is dealing with complexity and the associated workload. So, is the looming systemic risk represented by climate biodiversity loss, war, the societal stuff. We could decide where to draw boundaries. Is that business as usual? Or is constructing a portfolio business as usual? And all of these things are business beyond usual. So, all of these organisations are like, how on earth do we free up the time that we need in order to prepare for these more thinking ahead type problems?
Jane: [00:13:14] When you talk about complexity, Tim, let's just be clear about what you mean by that. Are you saying that basically things are getting more complex? And there's a distinction, isn't there, between complexity and things which are complicated? So, tell me a bit more about when you talk about complexity, what do you actually mean? And is this something which is increasing, or is it just that we're becoming a bit more tuned into it?
Tim: [00:13:38] Okay. I suspect you've probably seen me years ago rant about the difference between something being complicated and something being complex. So, I had an old slide deck where I would show a picture of an aeroplane being built in a hangar and ask people if it was complex. And normally people go, yeah, yeah, that's definitely complex. And I'd say, no, it isn't. It's complicated because it is a mechanical process with a start and an end. There are blueprints and folders in an office somewhere that, if you followed them exactly, would allow any one of us to construct an airworthy aeroplane. Now the chances of us making a mistake are quite high, obviously, but in principle, everything fits together. Everything works towards a cohesive end. So incredibly complicated, but not complex. Complex is where you have multiple interacting components, each of which can change its behaviours or responses to stimuli and in turn send different messages through the system. So generally, we talk about complex adaptive systems. I fervently believe that all economies, all markets are complex adaptive systems. All human societies are complex adaptive systems. So, there may be some truth to history rhyming but not repeating. But that's because we're not stuck in an equilibrium and wobbling around. We're on a path finding new solutions. So, do ask me a follow up question? If I haven't quite explained the difference of the difference between complicated and complex, but as to whether it's growing, I think is a really, really interesting question. So last year we did some work on systemic risk. One of the conclusions that I came to was. Any system will try and grow. Not because it's programmed to just because that's what systems do. So, most systems will grow up to the point of availability of resources. So, take a coral reef or any natural ecosystem, and a coral reef is constrained by the rate at which ocean currents bring it nutrients. It can't grow. It can't add a gazillion more species. It can change its mix of species, but essentially there is a constraint. We humans don't really like constraints. And so, our systems, our economies, we want them to grow. But in that growth, they A, become bigger but actually you tend to invent more niches. You have a new technology. And so, I do believe that most systems grow in complexity. And every time you add a new invention, that invention can be combined with every other existing invention. So, this was an idea come up with by Brian Arthur probably the founder of complexity economics. And so actually, until you hit some form of constraint, it is true, I believe that complexity is growing.
Jane: [00:16:56] And so when you think about that in terms of the sustainability lens, then obviously it becomes quite clear about what those constraints could be. Obviously, we're trying, or some folks are interested in trying to avoid hitting those ultimate constraints. Okay, good. So, complexity interesting, super interesting and systemic risk. Those are very, very critical things for the investment industry to be thinking about. And so, interested in your research this year. Now, another area I wanted to pick up on was around associated with the name of your organisation, Thinking Ahead. And I know that this long horizon investing is very much something that you guys have talked about and thought about repeatedly. And I guess I'm a bit sceptical because it feels like we've been talking about the need to think long term for a really long time, ever since I've been in the investment industry, talked about the need for asset owners to be thinking long term. I'm just going to ask you straight out, Tim, is this just all bluster and rhetoric, or actually, are we seeing different ways of investing capital, which actually, truly are long term?
Tim: [00:18:02] Oh, Jane. Good question. And I'm going to air towards bluster and rhetoric.
Jane: [00:18:11] Okay.
Tim: [00:18:13] But the qualified version is this is a complex adaptive system and there is an ecosystem of strategies. So, within it, I believe there are some strategies that are genuinely long term. However, you're right. We did a lot of work a few years ago on looking at long horizon Investing. So, we started out going, is there a premium, is there a reason or should we just shut up and go home and you can't find a long term premium, but we found what we consider to be compelling evidence. Separate, disparate pieces of evidence that you could piece together in a coherent narrative that would suggest that there was indeed a long term premium and actually sizeable. We estimated it was somewhere between half a percent per annum and 1.5% per annum, depending on the size and sophistication of the asset owner. So small asset owner, less resources can pursue less of the strategies. Large asset owner, stronger governance, stronger internal team can pursue all of the potential long term strategies. So, our history within investment is whenever we discover a premium, small cap, value, whatever, it immediately disappears because everybody kind of goes, right, I'm going to start harvesting that. I would argue that the problems of harvesting the long term premium are sufficiently hard that the premium remains, and it remains for those few who can get there. One of the papers that we wrote was called patience not only a virtue, but also an asset. And essentially it was arguing that a long term investor necessarily needs to possess patience. And that's throughout its arrangement from the governing board, through the executive, through to the comp arrangements and the whatever governing the behaviours of the actual portfolio manager. They all need to be in sync and patient, but you also need to treat it as a depreciating asset. So, in other words, the organisation needs to encourage and support and continue to reinvest in patience. Otherwise, it will decay or erode or depreciate. And the investment world only throws up periodic opportunities to really capitalise. So, in other words, you can claim to be a long horizon investor and the outside world won't be able to judge whether your claim is correct or not. It is only when you have a deep drawdown situation. I would argue that those who capitulate and sell out are declaring themselves to be short term investors, those who hold on or even add to their positions are declaring themselves to be patient, long term investors. So, apologies if that was too long winded, but fascinating subject.
Jane: [00:21:16] No, it's really fascinating. And I think that's one of the inherent issues, isn't it, is that it's very difficult to judge whether or not it's genuine. But that's probably a whole different episode. But I think that checking out that piece of research that you mentioned. So that's patience not only as a virtue, but also as an asset. So, I really like that. So, let's check that out another time. Moving on to sustainability specifically the institute's been increasingly working on sustainability in recent years, and we now see lots and lots of asset owners this becoming quite a normal part of their kind of their investment philosophy or strategy. My question really is, do we actually think that asset owners adopting sustainability as a core investment belief or strategy? Is that going to reshape the investment industry, or is it just tinkering around the edges, do you think?
Tim: [00:22:09] You really do like asking hard questions, don't you?
Jane: [00:22:12] Well, to you. Yes, I do, Tim, because I know that you think about this day in and day out, so I think it's fair.
Tim: [00:22:17] I'm glad that you used the word sustainability rather than ESG. We know that there are woke wars going on and the like and all of that noise, all of that heat rather than light, I think is effectively shuffling deckchairs on the Titanic. It doesn't amount to much. Whether more serious consideration and focusing on light rather than heat could yield meaningful change is, to me, a fascinating question. And I've kind of mentioned working on systemic risk. We've talked about systems growing unless actively constrained and the bit that I didn't spell out but was implied is that if a system runs out of resources, it collapses. So, you can go back and look at human civilisations that have collapsed, you can look at bacteria in petri dishes, etc., etc. So really what's going on at the moment and in a paper that we wrote last year, systemic risk deepening our understanding, I claimed or asserted that energy was the foundational systemic risk. We're kind of seeing claims that AI, for example, offers great hope in finding energy efficiencies distributed smart grids and the like. And I hope that's true. But what we also see with AI is an increase in demand for energy. So even if we build out renewable generation as fast as we possibly can. And let's say that the governments who've committed to trebling renewable capacity by 2030 deliver on that. That's all wonderful. But unless you're constraining or actually forcing down the overall demand for energy, you could end up producing the same level of carbon emissions in 2030 as we are now. Because you don't do any replacement of fossil fuel derived energy, you just simply create more energy. And AI consumes more, or Bitcoin consumes more or whatever. So, what I'm long winded trying to get around to is the concept of sustainability when you think in systems really becomes quite vexed. And so, we need to ask ourselves whether, some really quite foundational things. So, all of the returns that we've generated thus far, and as a gratuitous aside, a few years ago I wrote an opinion piece with the title Past Returns Aren't Even A Good Guide to the past, because I was effectively claiming we weren't paying for the externalities. All of this stuff together is our current system that generates our current returns. Best described as a linear, extractive form of capitalism. We dig up the earth, we melt the rocks, we ship them, we sell them, they go to landfill. If we convert that into a circular economy or even a regenerative circular economy, that might tick sustainability boxes. But how's that going to play in terms of return generation? I think these are really very complex, very difficult conversations.
Jane: [00:25:48] Wow. That's a lot to get our heads around. And I think we're going to leave it there because we've run out of time. But I do think that some of the topics that you've thrown up there are really worthwhile thinking about to make sure that we're not just focussed on moving deck chairs around. I think that's the takeaway for me. It's really about some of these bigger issues, systemic risks, complexity, etc. So, thank you, Tim, for sharing that. I've got to say that every time I talk to you, I leave with a slight headache. No, I'm only joking but I think talking about these issues are really, really important because, we're dealing with big responsibilities in the investment industry. So, thank you so much for coming on and sharing some of your work. And if people want to check out the research, they can do so on the website, Thinkingaheadnstitute.org. Thank you very much again, Tim, for your time.
Tim: [00:26:40] Jane. Thanks for having me. It was a pleasure.
Jane: [00:26:43] So that's it for this week's episode. I hope you enjoyed the conversation. If you've got questions, comments, or someone you'd like us to talk to, then do get in touch by email at fmt@lseg.com. That's all from me but watch out for the next episode very soon.
