Where are the ESG opportunities for alternative investments?

Jaclyn Bouchard, EVP, Head of ESG Solutions and Corporate Responsibility, Preqin, outlines the current opportunities, challenges, and solutions around ESG for alternative investments.

Maya Sibul: When it comes to investing in alternatives, what would you say are the biggest challenges but also the biggest opportunities around ESG?

Jaclyn Bouchard: The biggest challenge when it comes to investing at all is of course ESG data, and that includes both data availability and data quality. Target markets are opaque by nature, which makes sourcing or accessing accurate ESG data from private companies really difficult and also in most cases, these private companies might not know exactly what to measure when it comes to ESG due to the overwhelming landscape of getting requests from all over the place and different methodologies. This leads to a lack of trust in the available data.

Another challenge is the diversity of the asset classes in alts. which means that some asset classes are more regulated or private than others. Having a holistic perspective of a multi-asset portfolio is incredibly challenging.

"In alternatives you can have a majority ownership and hold an asset for a long time [which] means you can create the change that you want to sees."

ESG is also a relatively new field within alts, which may be surprising to hear. So, the fixed and variable costs of setting it up can be high, which makes it quite costly to implement. This means that there's a general lack of ESG-related professionals who have extensive experience that are currently embedded in alts – they’re available in the market but not necessarily in alts.

So, when talking about opportunities, alternatives offer an invaluable opportunity due to their capacity and capability to influence and work closely with an asset and then find the value of additional opportunities that not only increase returns but also value for society and the environment. What I mean here is from companies operating in niche strategies, developing technologies to solve for carbon capture to new business lines and traditional companies derived from a better understanding of their ESG capabilities. The fact that in alternatives you can have a whole or majority ownership and hold an asset for quite a long time means you can create the change that you want to see, which is a big difference from public markets where you may only own a piece of the company.

With this, there are big opportunities related to sustainability objectives, such as aligning with net zero targets, reducing carbon emissions, achieving higher employee satisfaction, better governance, and more transparency.

Maya: How are developing disclosure requirements – around frameworks such as the Sustainable Finance Disclosure Regulation (SFDR) and the Task Force on Climate-Related Financial Disclosures (TCFD) – changing the appeal of specific assets? How are asset owners adapting to these changes? 

Jaclyn: The alphabet soup of regulation! It's worth mentioning that SFDR regulation is not a voluntary framework, while TCFD is voluntary currently, though, we are seeing it embedded in the regulations. These regulations are influencing investor demand and we've seen an increase in appetite from asset owners for vehicles that are classified as article 8, 8+ or 9 under SFDR.

"Asset owners are trying to engage with their fund managers and asking relevant questions regarding disclosures, which is much needed."

There is pressure on fund managers to move to these consultations for funds in which they're already invested. So, regulations do tend to shape the demand and flow of capital but that hasn't happened seamlessly. It's been rather confusing or challenging for participants due to the conversations like unintentional greenwashing derived from SFDR requirements, or just generally the implementation of a rigorous top-down “one size fits all” regulation. As a result, asset owners are trying now to engage more deeply with their fund managers and asking more relevant questions regarding disclosures, which is great and quite honestly, much needed if we want to deliver on ESG goals.

Then talking about TCFD – the voluntary framework – these influence investor demands, but the link is not so obvious. So having the TCFD report talks about your commitment to measuring environmental metrics, and integrating climate thinking into your governance and strategy so it does send a signal but it's not yet a key deciding factor for asset owners to allocate.

Maya: On the asset manager side, how would you see them handling these increased pressures from investors around ESG integration?

Jaclyn: We can all agree that there's been an ongoing increase in pressure from investors around ESG integration and managers are being inundated with requests – some standard, some slightly more tailored to the investor requirements, etc. It's getting a bit unwieldy, and it takes a lot of time and resources.

"It seems like people are embracing ESG integration in unique ways to achieve their own goals and to streamline ESG data collection reporting requirements."

So many [managers] have started to create standard template reports to share with their asset owners, which is helpful In our Preqin ESG in Alternatives 2023 report, we saw that some smaller managers, particularly in Europe, are demonstrating strong levels of ESG integration in order to attract asset owners. By using ESG as their growth strategy they are prioritising ESG integration reporting and engagement.

Overall, it seems like people are embracing ESG integration in unique ways to make and achieve their own goals and to try to streamline ESG data collection reporting requirements, for example, that are continuing to increase for investors.

Maya: How do you ensure that you're collecting the best, most necessary data, and where are the data gaps? What are you trying to fill and what are you focusing on in the future?

Jaclyn: We rely on our strongest asset, which is the trusted relationships with LPs and GPs globally, that we've developed as a business partner for ESG, by being the largest database of alternative data and now the largest database of ESG data in alternatives.

Together, we have ESG-related data points for every possible corner. We leverage our relationships with private market participants and when the data points don't exist, we provide you with viable estimates based on multiple data sources, both proprietary and public, and innovative models scaled by our data science engine.

This is all developed by our team so essentially, we'll get to the real data where possible, and then we'll help you fill in the gap with an estimate that you can trust where data is lacking and alert. All our ESG products are powered by the foundation of data that we've been collating for over 20 years. This large database of private market financial data, so you have the financial and the non-financial right next to each other, which is very powerful.

Then the capacity to merge – informed proxies and financial data enables us to deliver a solution at scale that covers the whole market. That way, you can take a look at a single asset through to a portfolio and to a fund manager and even up to the institutional investor level and then all the way back down, because it's all connected.

Jaclyn will be speaking at ESG Investment Leader | Europe 2023 in November in London. For more information, including how to register to attend, click here.