Driving positive change through engagement

BY WIM GROENEVELD

The COVID-19 crisis has accelerated the adoption of sustainable capitalism. But in order to really drive positive change, having a real dialogue with companies is crucial. Financial Investigator spoke with Ana Victoria Quaas, Sustainable Investing Analyst at Fidelity International.

Did the COVID-19 pandemic increase corporate consideration of social responsibility? What do you see in practice?

‘Before the pandemic hit, interest in ESG investing was growing in all regions of the world. The biggest issue for many was the impact of climate change and how to address it. After COVID-19 put the brakes on global growth, it seemed likely that ESG’s rising tide would ebb. Sceptics claimed that it would be a bull market phenomenon and unlikely to remain a priority when entire industries were struggling to stay afloat.

The truth could not be more different. COVID-19 has brought ESG issues to the fore with unexpected urgency. Chief among

Photo: Archive Fidelity International them has been the rise of ‘S’ , with a much greater focus on employee welfare and the societal responsibility of businesses in a global crisis. Priorities – for corporations, households and governments – have changed dramatically.

Across sectors and regions, our analysts have said that the health of staff has been at the forefront of managements’ minds, and companies will devote more attention to employees’ safety and wellbeing in the future. We have also found that for some companies – as a result of the crisis – demonstrating good corporate citizenship and support for the communities in which they operate, is now an essential part of building and sustaining brand equity.

We have been able to map this transformation via our monthly survey of more than 140 analysts worldwide. Our June Analyst Survey found that this trend will outlast the COVID-19 outbreak in some areas. Fifteen percent of North America analysts, a higher proportion than in Europe, said they expected the majority of social-oriented changes in the companies would be permanent.’

Many say that this crisis has presented an opportunity to create a more solid, more equitable, and ultimately more sustainable economy. What are your experiences with this?

‘The COVID-19 crisis has accelerated the adoption of sustainable capitalism, in particular on matters related to the social good, because of its challenge to society’s ability to deliver the basic physiological needs of safety and good health. The pandemic is an external threat to populations, both in biological and economic terms, generating a collective wartime-like response to defeat it, and reinforcing the need to preserve the environmental and human ecosystem on which we all rely.

This may ultimately prove to be ground-breaking. There is growing recognition in the corporate world that its existence as a system for allocating resources is based on an implicit

licence granted by society. One that can only be strengthened by seeking win-win, rather than win-lose outcomes.

It is likely that the extreme and tragic experience of the COVID-19 pandemic has resulted in a permanent change to the mindset and attitudes toward sustainable capitalism. If the door to combining corporate purpose and the common good was open a crack before the crisis, the events of the last five months have thrown it wide open.’

Have companies that focus on ESG been rewarded during the COVID-19 sell-off, or not? How did ESGleaders perform? What are your expectations of future returns on investments of these companies?

‘The sustainability theme has matured as an analytical approach, providing investors with a globally accepted vocabulary and a body of knowledge with which to analyse corporate performance. We have developed our own proprietary sustainability ratings to capitalise on and advance that body of knowledge, assigning the companies we cover a rating on a scale from A to E based on their performance against sustainability criteria.

Using these ratings, we’ve found that what holds true for longterm market performance, has also been a factor in more short-term market movements, particularly during the sudden and extreme bear market from February to March this year.

To test the effect of this volatility on companies with different environmental, social and governance characteristics, we have carried out a performance comparison across more than 2,600 companies, using the rating system, which gave us a wealth of data to analyse the dispersion of returns between the five levels during the recent crash.

Our hypothesis, when starting the research, was that the companies with good sustainability characteristics have more prudent and conservative management teams and will therefore demonstrate greater resilience in a market crisis.

While some caveats remain, including adjustments for beta, credit quality and the sudden market recovery, we were encouraged by evidence of an overall relationship between strong sustainability factors and returns, lending further credence to the importance of analysing ESG factors as part of a fundamental research approach.’

How can active asset managers play an important role in holding corporate management to account?

‘Using sustainability as a core criterion can help assess whether the strategies a company is deploying will create long-term value or are merely generating short-term profits for shareholders at the expense of other stakeholders. By helping to judge between trends, this yardstick can make a significant difference to investment outcomes. Corporate engagement forms a central pillar of the active approach to sustainable investing, and a policy of regularly talking to and meeting corporate decision makers has some advantages over other approaches.

Active asset managers have a role to play in holding corporate management to account and minimising the risks. Firstly, and perhaps most importantly from the viewpoint of sustainable investing, a strategy of engagement provides a setting in which to raise concerns about how a company manages the impact it has on the society or environment in which it operates. Secondly, an engaged asset manager is more likely to spot the sort of risks and opportunities that don’t show up on the balance sheet. These non-financial risks can have a real financial impact on a firm over time.

Interacting with corporate managers gives a good sense of the culture of a company. A poor culture giving rise to issues such as employment discrimination or product safety is a source of risk that is likely to materialise in the form of fines or recall costs later on.’ «

Figure 1: Social change starts to bed in Figure 1: Social change starts to bed in

"To what extent do you expect the higher emphasis on 'S' within ESG will feature permanently beyond the resolution of the Covid crisis in your sector?"

Energy

Industrials

Consumer staples

Global aggregate

Telecoms

0 2.6 4 6.7 9.5 11.5 11.8 13

Utilities

0%

27.3

31.3

41.7

64 53.3

34.8 76.9 36.4

61.9

56.9 69.2

37.5 13.3

26.1

57.1

41.7 12

0

11.8

6.3 36.4 7.7

26.7 28.6 11.5 20 12.8

7.7

19.5

26.1 0

25 14.3

8.3 8.3

20% 40% 60% 80% 100% % of analysts' responses

Majority of changes will be permanent Some changes will be permanent, some temporary Majority of changes will be temporary I do not expect a greater emphasis on social factors

Source: Fidelity International, June 2020. Source: Fidelity International, June 2020.

More information: https://www.fidelityinstitutional. com/en-nl/articles/pages/outrunning-a-crisissustainability-and-market-outperformance-2ce135

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