How to balance ESG priorities with crunched resources

Tim Manuel, Partner and Head of Responsible Investment at Aon, discusses how investment teams can negotiate E, S, and G priorities.

Maya Sibul: With little time, crunched budgets, and ever-increasing ESG goals and agendas, how do you ensure that your risk and reporting teams are adequately balancing E, S, and G priorities?

Tim Manuel: I focus on helping investors deliver on their sustainability objectives – sitting at the intersection between asset owners and managers. This offers a unique perspective on what works well and what doesn’t.

One observation I’d make is that most asset managers aren’t as close to their clients as they think they are. Most struggle to effectively communicate with them. Often, they focus more on what the asset manager does – an inward perspective – than what they can do for their clients and how they can help them meet their needs or goals. So, in the context of setting priorities, that means that asset managers often act reactively rather than proactively. To some extent, this has always been the case.

However, in this new world of ESG – where things move more quickly than ever before, and investors’ objectives have gotten significantly more complex – it’s not just about return but there’s a whole plethora of different factors that now come along with it. The new environment has highlighted some of those frailties in client relationships.

My answer to asset managers on how they can better balance priorities is to start with their clients. Asset owner priorities should drive asset manager priorities – and you only get real insights from asset owners when you have strong relationships to draw on.

“Asset owner priorities should drive asset manager priorities – and you only get real insights when there are strong relationships to draw on.”

Investor needs are complex and always subject to change. Investors don’t always know what they want, and their priorities pull them in different directions. It isn’t a one-off exercise; it’s an ongoing process of engagement and a way of working.

Of course, it’s easier said than done. It takes dedication, time, and focus to invest in your relationships the way you would in asset strategies.

Maya: What are the biggest hurdles you see when it comes to managing different reporting regimes and determining which assets have longevity – or are attractive both now and in the future?

Tim: There’s one major hurdle – what I would call the ‘patchwork quilt’ effect. It has occurred as many regulators haven’t worked in tandem or haven’t operated across and or even within jurisdictions.

We have seen a disharmony of regulatory priorities and a proliferation of what have essentially become competing frameworks. It’s not a good look – especially for an investment industry that has historically done a decent job of operating globally and across boundaries.

The patchwork quilt effect has created additional barriers and friction, which means that resources have been diverted from productive activity to meeting some basic operational needs. Reporting regimes have been pushed and pulled in many directions – and, as a result, the clients’ needs aren’t prioritised.

For example, UK-domiciled investors do not predominately invest in UK-domiciled funds. Roughly speaking, about two-thirds of that money is invested in EU funds and elsewhere – investments often operate under a different domicile than their investor’s. Those investors also typically hold funds across multiple domiciles across their portfolio.

It all means that there’s more work for asset managers and more complexity and confusion for asset owners.

When I’m helping my asset owner client understand the sustainability characteristics of their investments, I have to balance the different information coming from different regimes across say UK funds, EU funds, and funds domiciled elsewhere – this makes the conversation trickier.

“The only way to identify the assets with the greatest longevity is to look
through the regulatory noise.”

However, the issue doesn’t exist solely across jurisdictions; another example can be found within the UK. Some providers offer bundled defined contribution (DC) vehicles, which they might offer in both master trust and group personal pension (GPP) forms. The master trust is governed by The Pensions Regulator (TPR), and the GPP is governed by the Financial Conduct Authority (FCA). It’s the same product in a different wrapper, but because they fall under different regimes, their reporting obligations are different.

To the second part of your question, in my view, the only way to identify the assets with the greatest longevity is to look through the regulatory noise, and there are two characteristics I’d highlight.

The first is having a clear purpose. It’s critical that you can clearly explain what your products are delivering and how they align with your own strategic goals. Client needs can oscillate, but there is usually a persistent core. Your strategic goals should persist too.

The second characteristic is flexibility from the outset. We need to accept we’re working in a fast-paced world, so mandates that are more operationally rigid run a greater risk of obsolescence.

There’s also a minor hurdle around data – but that’s a whole other conversation that we can save for the panel discussion.

Maya: How much do regulatory agendas – and the mismatches between frameworks you already mentioned – shape reporting pipelines and risk management priorities? What needs to be improved?

Tim: Many of these questions are complex and multifaceted, and there’s not a simple answer. But one thing to draw attention to, here, is the different disclosure requirements that have been introduced.

A resulting challenge is the strain these varying requirements put on reporting and risk management priorities. Now, a key part of the recent regulatory push has been around transparency disclosure, which is a good thing. When investors know they will be subject to – or they will potentially be subject to – greater scrutiny, behaviours change substantially, and often in the right direction.

However, one of the big challenges is around implementation.

Currently, we don’t have an adequate “chain of disclosure”. For example, the Task Force on Climate-Related Financial Disclosures (TCFD) disclosure that a company makes is not at all helpful for the TCFD disclosure that an asset manager invested in that company needs to make. Similarly, the TCFD disclosure that the asset manager makes is not helpful for the asset owner who invests with that manager.

“There’s a whole world of private disclosure channels where the useful information is being exchanged – and [it’s] subject to less scrutiny.”

We’ve created an environment of public disclosure, which gets all the focus because it’s what people can see. That’s where a lot of the development spend has been. But public disclosure is still underused, and there’s a lot happening behind the scenes which isn’t visible.

There’s a whole world of private disclosure channels where the useful information is being exchanged – and that information is subject to less scrutiny and oversight, which increases the burden even further on those that need information because more verification is needed.

Whilst the more public channels tend to be more fixed in nature – which enables comparison between providers – private disclosure can vary quite significantly depending on client needs and the capabilities of the party providing the information.

Maya: That sounds like the underside of the ‘patchwork quilt’ issue you mentioned – the lack of interoperability.

Tim: Exactly. It’s what’s under the quilt that matters.

In terms of agendas and priorities – and the resource and spend-crunch – a challenge is that lots of organisations have already significantly committed themselves, financially, to external pledges they’ve made around net zero or transition finance.

Some of them have made positive, bold commitments, but they don’t know how they’re going to deliver on them. These are problems we’ll face over the next few decades, given that many of the solutions don’t yet exist.

“We won’t be judged on the reporting we do or the number of processes we design but how quickly capital can be deployed to address challenges.”

One thing that is clear is that few of these organisations will be able to deliver on those commitments on their own. Everyone must be open about their capabilities and plans – as well as open to the possibility of partnering with others.

Ultimately, we won’t be judged on the reporting we do or the number of processes we design but on how quickly capital can be deployed at scale to address these challenges and impact the future. I know we need those quick wins to get the momentum going, but we can’t lose sight of the big picture.

Sometimes the only way to do that is by exploring what’s around you – and seeing how others can help rather than building everything on your own.

Maya: We touched briefly on how domicile influences investment operations, but what are some of the biggest market differences you’re seeing in terms of E, S, or G focus in different regions?

Tim: As mentioned, we’re seeing a difference in approach and a divergence in pace with the ways that regulation is being rolled out across geographies and jurisdictions.

There’s also something to be said about differences in client demand and appetite.

The best example is the US versus the UK and EU. The difference is most evident around stewardship and engagement – in terms of what investor clients in those parts of the world are looking for.

In the UK and EU, there’s the expectation that engagement and stewardship will be undertaken through the lens of what it means for many stakeholders. In the US, the focus tends to be on what these changes mean only for the investor. So many US asset managers are finding it difficult to meet the expectations of some European clients.

In practice, this means that it’s increasingly difficult for large, global asset managers to serve a global client audience. By trying to serve all of their clients’ needs, they run the risk of serving none of them.

It’s another dimension that organisations in the industry have to navigate; not only is there divergence on the regulatory side but there is also a significant difference in what clients expect and demand.

Tim will be speaking at ESG Investment Leader | Europe 2023 in London on 2nd November. You can find more information, including how to register, here.