Sustainable progress needs a sustainable system
)û7!3û).û"ERLINûLASTûWEEKûFORûTHEûANNUALû
conference of the Principles for
Responsible Investment, the United
Nations-supported organisation that
aims to foster the employment of
environmental, social and corporate
governance standards (ESG) among
global investors.
At the conference I moderated
a panel discussion on making a
SUSTAINABLEûlNANCIALûSYSTEMûAûREALITYû
and that topic seemed entirely apposite
given the global capital markets
backdrop.
This involves US equities hitting
record highs and being as richly valued
as they have been on most measures
since just prior to the crash of 1929,
while bond spreads have failed to back up even as the
market discounts the withdrawal of quantitative easing and
another rate hike from the Federal Reserve.
Meanwhile President Trump is aiming to slash the
corporate tax rate to 20% from 35%, while in the UK, at
last week’s Labour party conference, party leader Jeremy
#ORBYNûRAILEDûAGAINSTûTHEûFAILINGSûOFûTHEûGLOBALûlNANCIALû
system to deliver social justice in the wake of the global
lNANCIALûCRISIS
He then unveiled a series of policies which aim to
redistribute wealth in the United Kingdom – with
nationalisation and a hefty ramp-up of public spending at
their core – on a scale not seen since the 1970s.!4û4(%û"%2,).ûconference I pondered exactly what it means to
TALKûOFûAûhNEWûlNANCIALûSYSTEMvû!FTERûALL ûTHEûFUNDAMENTALû
elements whereby capital is raised and relevant price points
are established appear constant.
So there are primary bond markets, whereby debt is
priced at a spread over a relevant government benchmark,
initial public offerings or block sell-downs by corporations
in the equity markets, and syndicated, club or bilateral
lending in the loan markets.
7HEREûTHEûDISINTERMEDIATIONûAFFORDEDûBYûTAPPINGû
institutional and retail funds via the capital markets falls
short, the slack is taken up by the banks. And even in a
world where banks in the US and Europe are paring risk in
the face of more stringent regulation and rationalisation
FOLLOWINGûTHEûLOSSESûSUSTAINEDûDURINGûTHEûGLOBALûlNANCIALû
crisis, China’s banks are willing to keep global credit perky.
7HILEûTHEREûHASûBEENûANûEXPLOSIONûOFûISSUANCEûINûTHEû
GREENûlNANCEûMARKET ûTHEûDEBTûISSUEDûTHEREûREMAINSûVALUEDû
and executed according to the “system” which has been in
place for the best part of the last 50 years.
7HENûTHEû%3'ûLOBBYûTALKSûABOUTûMOVINGûTOûAûSUSTAINABLEû
lNANCIALûSYSTEM ûTHEûEMPHASISûISûNOTûABOUTûTHEûBUILDINGû
blocks of that system, but on the practices of investors in
relation to sustainability. In other words, investors mustbe mindful at all times of the impact of their allocation of
capital, even if the available instruments for investment
have been originated within the existing system.
That calls for a rebalancing of the perception of value,
AWAYûFROMûTHEûSHORT
TERMûTOûAûMUCHûLONGERûTENORû7HENû
valuing a long-term project, the hope among ESG advocates
is that considerations of the long-term impact of that
project on society will allow a sustainable project with a
lower NPV to outweigh a rival alternative with a quicker
payback period.AND THERE ARE other interesting aspects which involve
a shake-up of the zeitgeist of conventional investment
THINKINGû)Nû"ERLINûWEûDISCUSSEDûSO
CALLEDûBETAûACTIVISM û
wherein investors aim to impact the overall risk of the
market – the beta, which has been regarded by portfolio
theorists as an exogenous factor – rather than focusing only
on the alpha generated by a skilful or well-informed fund
manager.
A classic example of beta activism was the withdrawal
of the mammoth California Public Employees’ Retirement
System from the Philippines equity markets back in 2002
on the back of vocally expressed
concerns about governance. That move
pushed Philippine stocks down by 3.5%
in what is a casebook example for beta
activists. That group also advocates
divestment away from equities which
have low ESG scores.
4HEûEXISTINGûlNANCIALûSYSTEMûMIGHTû
well morph into something entirely
different, along the lines sought by
%3'ûADVOCATES ûIFûlNANCIALûTECHNOLOGYû
has the impact it promises. So peer-
to-peer lending and equity and debt
issuance via blockchain technology
might lead to an unprecedented
disintermediation of capital away from
CONVENTIONALûlNANCIALûINSTITUTIONSû
such as commercial and investment
banks.
!NDûEVENûWITHINûTHEûCONlNESûOFûTHEû
existing system, the incorporation of
ESG methodology into credit ratings
and the enforcement of mandatory
ESG reporting on corporations by
government regulators herald a shift in corporate behaviour
and asset pricing.
/FûCOURSE ûTHEûCOUNTERûARGUMENTûISûTHATûTHEûlDUCIARYûDUTYû
of a money manager is to deliver a superior return versus
AûBENCHMARKû"UTûASûITûHASûBEENûDEMONSTRATEDûTHATû%3'
linked benchmarks deliver a superior rate of return versus
CONVENTIONALûBENCHMARKS ûATûLEASTûASûFARûASûTHEûPASTûlVEû
years-odd are concerned, those who call for a realignment
of the zeitgeist in investment thinking appear to be
winning the argument.People
&Markets
As far as
the past five
years-odd are
concerned,
those who
call for a
realignment
of the zeitgeist
in investment
thinking
appear to be
winning the
argument.ESG thinking can still
make headway within
the conventional
capital markets, says
JONATHAN ROGERSCOMMENT