ESG CHAPTER
“SO, A KEY ISSUE FOR HEDGE FUNDS IN 2022 IS TO ENSURE THAT THEIR DISTINGUISHING CHARACTERISTIC – THE ABILITY TO SHORT – IS RECOGNISED AS A POTENTIAL FORCE FOR GOOD BY THOSE THAT HEAVILY INFLUENCE ALLOCATIONS.”
JAMES JAMPEL
FOUNDER, MANAGING PARTNER AND CO-CIO, HITE HEDGE ASSET MANAGEMENT
I
n 2021, popular culture charged into finance and subsumed many of the old rules. Memes, star power, and a grip on the imagination crushed many hedge fund shorts. On the long side, SPACs provided access to ventures that would normally only be available in private markets. Since the “E” in ESG refers to an existential risk to the planet, along with potential for huge growth, it’s not surprising that environmental investing has been caught up in the mania. Given that maintaining a robust short book is what distinguishes hedge funds from their riskier long-biased cousins, managing that mania will continue to be a key to success, with certain valuations reminiscent of Internet 2000. A key challenge for hedge fund short books is that they do not fit neatly into recent ESG constructs, like ‘carbon footprint’ and ‘impact’. Accounting logic demands that if a specific long book has a
33
positive carbon footprint and suggests complicity of some kind, then an identical short book must have the same, but negative, carbon footprint and negative complicity. Similarly, if divesting a long position is deemed to have an impact by decreasing a company’s cost of capital, borrowing a position and selling it must also have an impact by increasing the cost of capital. Regulatory bodies and investment consultants, who are overwhelmingly concerned with long-only portfolios, are grappling with the implications of the above truisms. One of those implications is that a market neutral hedge fund that was short heavy carbon emitters could even claim a net negative carbon footprint, allowing it to shoot up the rankings, and potentially gain assets. It may not seem fair that a hedge fund doesn’t have to go through the potentially painful process of assessing every long holding when it can achieve carbon neutrality
instead by shorting, which is something they do anyway. Lastly, consider a hedge fund that is levered long and using its voting power to agitate for change among bad actors and laggards. Would we not want the regulators and consultants to encourage such a strategy? Without allowing shorts to count against carbon footprints, how could such a strategy pass muster? So, a key issue for hedge funds in 2022 is to ensure that their distinguishing characteristic – the ability to short – is recognised as a potential force for good by those that heavily influence allocations. The last thing we want to do is penalise engaged but properly hedged investors by assigning them large carbon footprints because we are unable to count offsetting shorts.
HEDGE WEEK GLOBAL OUTLOOK REPORT I JANUARY 2022
