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Foster Denovo|News & opinion|Opinion|Market briefing – 23rd September 2020

Market briefing – 23rd September 2020

With the tightening of covid restrictions, UK markets fell at the beginning of the week, but steadied as the week progressed. Further restrictions could impact markets and cause renewed volatility and so a ‘wait and see attitude’ has begun to prevail.

In Europe, stocks began to recover following sell offs at the beginning of the week. The US saw modest gains but remained subdued as markets awaited Jerome Powell’s(1) – the US Federal Reserve Chairman – update on the US economy(2).

Focusing on one business, Tesla announced advances in battery technology and stated that although they would continue to purchase batteries from third party suppliers, they would look to source within Tesla more and more as their requirements would outstrip supply(2). Which brings us onto …

Investment matters that may shape the rest of the 2020s

Interest generated in stakeholder capitalism by socially conscious investors continues to gain momentum following the seismic impact of the pandemic. A growing number of investors are demanding investment choices that do more than provide them with a rate of return.

The notion that a business’ motivation should not only be about generating profits, without taking wider sustainable factors into account, is becoming ever more important to investors, who perhaps historically would not have considered themselves socially conscious.

Whilst seeking options that will help their assets grow, managing the risks to this growth from environmental, social and governance (ESG) factors is becoming more of a priority. ESG investing means favouring companies that value long-term business sustainability, not just short-term profitability, and in the long run that should lead to better long-term financial returns for investors.

Whether to mitigate ESG risk factors or more progressively to actively encourage sustainable opportunities, ESG investing should not ideally involve sacrificing returns. Businesses that address short-term risks whilst adapting to longer-term trends should be more successful than businesses that do not. Poor ESG practices may ultimately be harmful to a business.

Al Gore – Former US Vice President (3)

“investors … are in serious danger of violating their fiduciary responsibility to their clients by leaving money on the table, and not taking into account factors that can actually improve performance of companies.”

As a result, some investors are looking to avoid investing in companies that do ‘harm’, and support those that benefit society in some respect.

That said, ESG investing isn’t without its detractors. In addition to the usual unfounded challenges relating to risk, performance and price, the following questions are legitimately asked, starting with ‘who will regulate ESG investing?’

Who will regulate ESG investing?

ESG investing – or any of its previous labels – has been around since the mid-20th century; well before the term ‘ESG’ even existed. However, the 2010s saw many Western governments increase regulations significantly. Initially prompted by the climate change crisis, most new regulations were aimed at companies and investors achieving a better understanding of this global predicament and attempting to meet the challenges created by it. The promotion and incorporation of alternative energy has helped to make ESG more mainstream – the ‘E’ in ESG – and has led to the enhancement in transparency around corporate governance – the ‘G’ in ESG.

However, not all is rosy… or green. It is fair to say that the days of extremes when businesses were, on the one hand, ‘polluters’, and on the other, ‘environmentalists’ have gone. Replaced with a balanced view that we will get there in the end; in other words, we should focus on ‘progress not perfection’. Nonetheless, different opinions as to who should say what is ESG, and what isn’t, are sometimes difficult to answer.

“Focus on progress, not perfection.”

Bill Phillips MBE (4). New Zealand economist at London School of Economics.

Consider the question ‘shall we cut down all the forests?’

On the surface a straightforward ‘no’ in terms of its ESG credibility ‘Focus on progress is the answer. And although no one is suggesting the contrary, not perfection.’

Palm oil is the most common vegetable oil on the planet and is in – everything from shampoo to confectionary(5). Yet in an attempt to New Zealand provide enough land for palm oil production, every year more and economist at more forestry is lost due to degradation and fire. 

To combat palm-oil consumption’s effect on the earth’s forests, producers and buyers have adopted zero-deforestation policies for harvesting their palm oil. Sounds simple. However, the success of these efforts depends on a transparent supply chain – regulated by a proper certification of supply — along with compliant disclosure by companies. So… Who should enforce these regulations?

The answer to this is important not just from an ESG standpoint, but also in ensuring the credibility of sustainable investing; that is, to prevent the accusation of ‘greenwashing’. Which brings us onto the logical next question, ‘are ESG standards becoming consistent?’

Are ESG standards becoming consistent?

Consistent ESG standards can benefit companies and investors. These standards are also essential in improving the information used by those tasked to analyse the legitimacy and credibility of ESG investing; especially those who select and de-select investments and funds based on sustainability criteria.

Beyond company disclosure, investors and investment managers need independent sources of data that are based on objectivity so that a more transparent picture of ESG standards, including risk and performance, can be assessed fairly, reducing the potential of ‘greenwashing’.

The question now arises as to what evaluations could be used to create transparency to help in the reduction of the accusation of ‘greenwashing’?

UN Sustainable Development Goals

One definition of ‘greenwashing’ is when a company claims to support one or more UN Sustainable Development Goals but is involved in a serious controversy that might contradict its declared support.

The United Nations Sustainable Development Goals, known as the UN SDGs, were launched in 2015.

Source: The UN (6)

These 17 development goals have been adopted by all of the United Nation Member States and aim to provide countries and their governing bodies with a blueprint to “end poverty, protect the planet and ensure that all people enjoy peace and prosperity by 2030.” The goals are purposefully high level in their nature, to capture the most critical issues facing the world’s population.

As the UN SDGs gain broader adoption among companies, investors aim to understand which, if any of the companies their investments are invested in, may miss the opportunity to support the goals and which could face allegations of ‘greenwashing.’

What should this tell you?

Sustainable investing should be about risk-based investing which evaluates, in equal measure, all potential risks. Businesses who are more aligned to ESG factors are more likely to remain in business for longer and so continue to make profits, benefitting investors.

It should also tell you that investors should diversify. While individual stocks and markets will continue to go up and down, smart diversification across assets, geographical jurisdictions, styles and philosophies, whilst factoring in environmental, social and governance criteria, can help investors minimise their risks. Investment managers should look to understand the ESG-related business risks and opportunities companies face.

Although it does not guarantee against loss, smart diversification is the most important component of reaching long-range financial goals while minimising risk.

However, remember that no matter how diversified a portfolio is risk and reward do typically go hand-in-hand and as such, risk can never be eliminated completely.

It is true that short-term horizons enhance the uncertainty due to the unpredictability of this current situation. However, it is important to remember that we very often have a long-term investment time horizon.

As we have said before, we will continue to monitor the current financial situation and keep you notified of any changes that are made. If you would like to discuss how the current situation might affect you, then please seek professional financial advice to discuss your financial situation further.

Sources

1) https://www.federalreservehistory.org/people/jerome_h_powell
2) https://www.nytimes.com/live/2020/09/22/business/stock-market-today-coronavirus#tesla-isexpected-to-outline-battery-advances
3) https://considerategroup.com/summer-news-bulletin-2020/
4) https://www.nzae.org.nz/events/nzae-conference-2008/awh-phillips/
5) https://www.wwf.org.uk/updates/8-things-know-about-palm-oil
6) https://www.undp.org/content/undp/en/home/sustainable-development-goals.html

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