When investors put their savings to work in the markets through investment funds, they do not expect to do so blindly. They seek to understand what their chosen fund seeks to achieve, how the manager tries to meet that objective and the return that they can expect over a given timeframe.
They also expect regular updates on performance, so their investments can be mapped against their financial objectives. It is understandable, therefore, that those who invest in a fund with an explicit Responsible Investment (RI) mandate should expect some tangible evidence of the extent to which it delivers on its social and/or environmental promise, alongside any financial returns.
There is now a plethora of RI funds available to retail investors, reflecting a greater awareness that individual action through personal lifestyle choices and behaviour can make a difference to society or the environment. However, while financial performance relative to an objective or benchmark can be readily measured, clear, consistent and tangible metrics evidencing a fund’s impact, positive and negative, are somewhat embryonic.
Challenges for measurement
There are challenges. First, the necessary company data is limited. While pressure is being applied by governments, regulators and market participants for companies to disclose more information on their social and environmental performance, many are still at the beginning of their journey. Without a common reporting framework in place, businesses are left to interpret for themselves what constitutes best practice. It is also a resource-intensive exercise which creates hurdles, particularly for smaller companies.
For funds, the lack of a common taxonomy creates confusion, although this is being addressed. If there is no consistent description of what a fund purports to achieve, assessing whether it does so or not is problematic.
Additionally, there are no established metrics against which RI success can be measured in the same way that a fund’s return versus a benchmark can be represented. An explanation of how a fund maps to frameworks such as the UN’s Sustainable Development Goals can help, since these represent easily identifiable targets, such as ending poverty. This can, though, also hinder understanding, as different funds map to these goals in differing ways, some of which may be tenuous.
How to show the benefits of an RI fund
What steps, therefore, can be taken to evidence the benefits a RI fund claims to deliver? First, a fund manager must clearly state what they aim to achieve, demonstrate their success in achieving this and where they fail, clearly explain why. Evidence should be provided using whatever data is available, presented in a standardised and accessible way.
For example, if an impact fund manager has an objective of driving the transition to net zero, they must articulate clearly what this means to a layperson, how they seek to achieve that and their success in terms of the amount of carbon emissions reduced or the megawatts of clean energy produced.
Case studies can be invaluable. They should explain what a company does and a manager’s thesis for investing in it, describing the challenge a company hasidentified, how it addresses this and the key performance indicators applied to demonstrate success.
Funds should also provide regular updates on their progress. Just as traditional funds have specified investment horizons against which financial performance is measured, a RI fund might indicate a timeframe over which its objectives are to be met. However, in the same way that all funds produce monthly factsheets to offer context to interim financial performance, RI funds should aim to update their investors on their RI progress on an ongoing basis to provide some yardstick of success.
The Square Mile framework
The primary focus of our work is creating a structure for comparing RI funds in a systematic and objective manner and all the above elements form part of our assessment of a fund’s potential for delivering on its RI promise. As a starting point, our framework of ‘do good’, ‘avoid doing harm’ and ‘lead change’ is the baseline against which funds are measured, with all funds undergoing a detailed examination of their holdings, policies, and practices in relation to these three pillars.
Responsible Investment has come a long way from being an outlier of the asset management industry to one of the fastest growing areas of investor interest. The speed of this growth, however, has outpaced the industry’s ability to evidence the force for good RI funds can have. We are, however, on a journey of progress, not perfection. Inevitably, the metrics against which RI success can be measured will continue to evolve, and every step towards a consistent, transparent and comprehensible framework should be seen as positive.
