Keeping your seat at the table
If there is any doubt that public controversy can damage a good name, one need only look at the case of Captain Charles Boycott. A manager of an estate in late 19th-century Ireland, he faced a well-organized community response after evicting farmers struggling to pay rent following a poor harvest. Other tenants stopped harvesting, stores ceased supplying him and even his own servants refused to work. His surname was adopted and remains the term of choice to express dissent.
In today’s consumer-oriented culture, voting with your dollar can be a potent tool. Well-organized campaigns can pressure a company more swiftly than governments and regulators. But some of the most effective boycotts aren’t those that renounce a product or shun a brand, but rather those that first engage with the company and its leadership. Protest and disassociation may cause an initial, albeit often temporary, impact on a company’s sales and reputation. But when advocacy leads to consistent monitoring and engagement, real change can happen.
The popularity of divestment raises a similar dynamic for asset owners and investment managers. Often driven by their constituents, endowments, pensions and other institutions are increasingly demanding that their capital is better aligned with environmental and social good. Or, rather, that it doesn’t cause harm. In recent years, stakeholders have been asking portfolio managers to avoid the usual suspects of fossil-fuels, chemicals, mining and a variety of other “brown” industries. In fact, exclusionary investing remains the most prevalent choice, according to the Global Sustainable Investment Review.
But is abstaining from a sector of the economy the best path for investors intent on promoting change and generating long-term sustainable wealth? While excluding certain companies, industries or even countries that do not reflect desired environmental, social and governance (ESG) considerations from a portfolio can send a message, you effectively give up your seat at the table. Publicly disclosing a divesture may make headlines, but it may not be as effective as advocating for change from the inside. Think of it this way: it is far easier for a company to brush off an outsider than an active owner.
Establish your voice
Many prominent asset owners are opting for engagement as the preferred mechanism for sound stewardship. This practice is proactive and direct, engaging the board of directors and C-suite about material ESG risks and opportunities. The impact is clear. Without years of intense dialogue on the structural headwinds confronting the energy sector, would many global oil producers even consider adopting a more carbon neutral strategy?
Active responsible investors are increasingly serving as shepherds who can help guide firms to see the possibility that change offers, to keep them on the path of progress and to experience the collective benefit when sustainability improvements are realized. Good things can happen when you keep your seat at the table and effectively use your voice for positive change.
Prudent risk management
An exclusionary approach also limits an investor’s portfolio choices—especially if one is avoiding entire sectors—and that usually means assuming more relative risk. Fiduciary concerns are real, and rare is the investor or beneficiary okay with losing money. Institutions, in particular, are bound by long duration obligations and liabilities. Strategic allocation across different assets and sectors is key to managing volatility, so why not leverage active engagement as a path to optimal, risk-adjusted returns?
Investing for environmental and social good is complicated. Passions compete, even within each stakeholder. Refusing to deal with the perceived bad house in a bad neighborhood may be the right call once all other options have been exhausted. But advocacy, like change, often is more effective when coming from within. The goal should be to generate win-win-win outcomes for companies, investors and society. And the best means might be purposeful dialogue about the ESG challenges and determining a more sustainable route. Exclusion and divestiture have reigned, but active engagement likely will define the future.
Views are as of the date above and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector.
There is no guarantee that considering ESG risks will be a successful investment approach.
Federated Advisory Services Company