Today, issues such as carbon taxes, inadequate financial disclosures, and weak corporate leadership on ESG matters demand a proactive approach. ESG integration is no longer optional but essential for sustainable investing.
Image: File
By Tlamelo Ntabeni
Recent high-profile corporate and accounting scandals, coupled with emerging regulations, both locally and globally, is accelerating the urgency with which asset managers integrate environmental, social, and governance (ESG) considerations.
A decade ago, asset managers could generate risk-adjusted returns without focusing on ESG factors.
Today, issues such as carbon taxes, inadequate financial disclosures, and weak corporate leadership on ESG matters demand a proactive approach. ESG integration is no longer optional but essential for sustainable investing.
Globally, regulatory frameworks are evolving to mandate ESG disclosures. In the UK, for instance, investment firms managing over £50 billion in assets are required to publish their first Task Force on Climate-related Financial Disclosures (TCFD) reports from June 2023.
From June 2024, firms managing UK£5 billion to £50 billion in assets will have their first reports published. While South Africa has not yet mandated TCFD reporting, the Johannesburg Stock Exchange has already incorporated TCFD principles into its guidelines, suggesting that the local asset management industry is likely to follow. In response to these pressures, South African managers have developed responsible investing/ESG policies, improved corporate engagements, and expanded their teams with ESG expertise.
The heightened interest in ESG reflects a global trend towards hiring skilled professionals to navigate the complex landscape of responsible investing.
The challenge of decarbonisation is particularly acute in the South African investment landscape, where the materials, mining, and energy sectors comprise approximately 28% of the FTSE/JSE All Share Index. Some South African managers are integrating climate change considerations – both transition and physical risks – into their investment processes.
This involves assessing climate change risk exposure in portfolios, engaging with investee companies on climate issues, and supporting industry initiatives for better climate data disclosure.
As part of their ESG framework, managers advocate for a just transition, urging companies to develop clear roadmaps and objectives. Rather than disinvesting from companies with poor ESG scores, many managers opt for a collaborative approach to improve ESG performance.
This strategy recognises that divestment alone won't address the broader challenge of economic decarbonisation.
South African asset managers have made significant strides in adopting ESG criteria. According to the Alexander Forbes 2023 Manager Watch Annual Survey, 37 of 44 large South African equity managers subscribe to the Code of Responsible Investing in South Africa (Crisa), and 31 are signatories to the United Nations Principles for Responsible Investing. This adoption rate signifies a growing commitment to responsible investing practices.
In developed markets, the focus often lies on environmental issues. However, in developing countries like South Africa, social challenges such as unemployment and the lack of basic services (water and electricity) take precedence.
These services still rely heavily on carbon-intensive energy sources, complicating the environmental aspect of ESG. Thus, addressing social issues such as labour, safety, and community relations is crucial in the South African context, given the high levels of poverty and unemployment.
ESG-proofing investment portfolios is still in its early stages, presenting asset managers with the challenge of balancing risk/return objectives through responsible investing. Exploring innovative solutions such as climate-aligned single stock portfolios, ESG integration equities, and sustainable thematic equities is essential.
The investment industry should view ESG not as an obstacle but as an opportunity to achieve sustainable returns while safeguarding the planet for future generations.
Achieving risk-adjusted returns through ESG integration involves forward-looking actions such as evaluating a portfolio's carbon preparedness, assessing its alignment with a 1.5°C or 2°C future, and identifying laggard companies to create opportunities for improvement.
The transition to a sustainable paradigm will take decades, akin to historical shifts from hand power to horsepower and then to fossil fuels.
As ESG factors continue to drive conversations, South African fund managers must navigate this evolving landscape, balancing environmental, social, and governance considerations to foster a sustainable future. The lessons from corporate scandals and the impetus from new regulations underscore the need for vigilant, responsible investing.
Ntabeni is a senior manager research analyst at Sanlam Investments Multi-Manager.
PERSONAL FINANCE