3 Disruptions to be expected in the new era of sustainable investing
The rise of sustainability and the integration of environmental, social and governance considerations into portfolios is one of the biggest investing trends of 2021. But amid all the buzz around the amount of capital pouring into sustainable investments, there are deeper and quieter transformations at work. . In fact, we believe these flows foreshadow a next wave of disruption.
The surge in investments, both by individuals and institutions, in sustainable strategies reflects a new commitment by investors to deploy their capital in ways that generate financial returns and have a positive impact. Over time, we are witnessing a shift from an approach based on ESG risk assessment to one based on the outcome of the impact on the sustainable investment market. Despite a relatively hesitant start, flows towards sustainable strategies have recently improved, peaking at a record $ 51.1 billion. in new funds in 2020 – according to Morningstar data– as investor concerns over social unrest and rising inequality have grown during the Covid-19 pandemic. To put this figure into perspective: last year’s inflows alone roughly matched the cumulative flows of the previous decade.
How all that capital is ultimately deployed will change not only the way investors value the companies they invest in, but also the offers those companies bring to market. Specifically, this massive flow of funds, we believe, will cause disruption in three areas:
First, investment portfolios will mirror values more closely than before. Today, young investors are rethinking economist Milton Friedman’s claim that market prices are set efficiently. “There is only one corporate social responsibility: to use its resources and engage in activities designed to increase its profits,” he wrote in 1970. When Friedman won the Nobel Prize for economy a few years later, few investors have a clear link between their policies and their portfolios. Today, millennials are clamoring for a more sustainable system of capitalism and they are putting their money where it is. Among investors aged 18 to 34, 52% prefer to commit their capital to sustainable investments rather than traditional strategies, compared to just 28% of investors aged 65 and over, according to a 2018 study by Schroders. Companies are changing their behavior to reflect this new mindset of stakeholder capitalism, or the belief that companies should consider the well-being of all stakeholders, not just shareholders. A case in point is that many American businesses have denounced the new election laws in Georgia as undemocratic because consumers these days expect their favorite brands to take a stand on the big issues of the day. .
Second, the impact will be measured in an innovative way. Once companies accept that younger generations want to measure business results through a combination of profit and impact, financial reporting will evolve from traditional metrics such as earnings per share and price-to-earnings ratios. Harvard Business School George Serafeim predicts that companies and investors will develop new methods of measuring performance, using impact-weighted accounting methods. Serafeim says, “The only way to outperform in this new era will be for companies to put material ESG issues at the heart of their… operations… and then measure and communicate their superior performance.” We believe that by 2030 impact-weighted financial reporting will be mainstream. Already, asset managers are experimenting with how to measure the impact of sustainable investment strategies. Some of the approaches explored include measuring and reporting the “temperature” of a portfolio, as in “Are your investments meeting the climate change targets contained in the Paris Agreement?” Once refined, these metrics could facilitate comparisons between sustainable strategies and will aid in measuring the impact of a portfolio.
Third, sustainable investing will lead to a wave of disruption in business. The increased emphasis on sustainability is shifting consumer demand in ways that create opportunities for both businesses and investors. Companies are working to anticipate how sustainable priorities like the desire for healthier, more technological lifestyles will change consumption patterns. This process is already producing ripples of disruption in sectors such as nutrition, healthcare and education. Trends that were marginal decades ago, from organic food to yoga, are now common. And after? Will tech companies that make wearable devices use our biometric data to develop new preventive healthcare tools? Will companies create more sustainable plant nutrition that will transform the food industry? Now that the global pandemic has made us more receptive to virtual interactions, how will education evolve? Will universities continue to dominate post-secondary education or, for example, will companies develop approaches that could offer young people and mid-career professionals practical and newly accredited alternatives to expensive and formal degree courses? ?
Investors should be alert to these and other disruptions expected from the huge amounts of capital flowing into sustainable strategies. By following these trends in the consumer and investment markets, investors will be able to make a closer connection between their ideals and their portfolios and may also be in a better position to spot potential winners and losers from the coming disruption.
Matt Christensen is Global Head of Sustainable and Impact Investing at Allianz Global Investors.