Is the E in ESG accelerating?

In light of the upcoming 2021 United Nations Climate Change Conference (COP26), it seemed like an opportune time to focus on Environmental, Social and Governance—particularly the “E” as it relates to climate change. Our investment leaders across equities, fixed income and alternative investments examine the role policymakers, asset managers and end investors can play in creating positive change.

    Introduction

    The global pandemic has further highlighted the importance of environmental, social and governance (ESG) factors in investing. With the 2021 United Nations Climate Change Conference (known as COP26)1 coming up in November, we thought it was an opportune time to focus on ESG—particularly the “E”—and the roles of policymakers, asset managers and end investors.

    Public and private stakeholders across the globe are increasingly looking for solutions that can allocate capital toward environmental goals. Our investment teams share how they are positioning portfolios and engaging companies to take into account the risks environmental factors might have on a portfolio, and in many cases how companies or governments might accelerate positive change. Here are some of the highlighted views from our investment managers on ESG investing.

    • ESG factors are quickly becoming relevant to an increasing breadth of investors, not just as a matter of principle but as recognition of the exigent risks to regions, economies and capital markets.
    • Events linked to climate change, including extreme weather, tend to have muted market impacts in the short term but serve as important reminders of the challenges and opportunities facing public companies across all sectors.
    • Investors can choose to play a vital role in how they allocate their capital to support environmental goals, including investing directly in companies with technologies that reduce energy consumption and emissions.
    • We see a sizeable disconnect between ambition and action among companies and governments. There needs to be a sense of urgency, and active investor engagement around the adoption, measurement and tracking of key climate-related pledges to accelerate change.
    • Active ownership and engagement have traditionally been associated with equity investing, but corporate bondholders are increasingly driving the conversation with companies.
    Link:
    Link:
    Link:

    Related Content

    Link:Allocation Views Link:Allocation Views Link:Allocation Views

    Link:An Update On Our ESG Scores Link:An Update On Our ESG Scores Link:An Update On Our ESG Scores

    Link:A Second-half Surge, Or Pause?

    Link:Are We at the Inflection Point of Climate Change Investing?

    Companies that prioritize ESG factors can create competitive advantages, such as higher energy efficiency, better productivity, and more diversity leading to better ideas and a reduction in regulatory and environmental risk.

    The viewpoints featured in our latest Global Investment Outlook inform our thinking as we cope with a changing world and changing investment landscape—we hope they offer you inspiration.


    Stephen Dover, CFA
    Chief Market Strategist,
    Franklin Templeton Investment Institute

    Shareholder Activism Bridges Investor Demand for ESG in Equities

    The role of investors in meeting climate change challenges

    David Sheasby
    Head of Stewardship and ESG Investment Strategy, 
    Martin Currie

    Capital markets and investors have a significant role to play in helping achieve “net zero.” However, there is a common misconception that, without raising direct equity capital, the ability for secondary markets to create “impact” in support of net zero is limited. We strongly disagree with this assumption and see several ways in which investors can support net zero ambitions.

    Thinking holistically about ESG

    Serina Perin Vinton
    Portfolio Manager, 
    Franklin Equity Group

    In our view, managers need to be thinking holistically about ESG in today’s environment. We see opportunities across many different industries when it comes to investment-driven innovations. Synthetic biology, green hydrogen, water-saving technologies and renewable energy are just a few examples with long-term growth prospects levered to a more sustainable environment.

    More than just renewables fighting climate change

    Mary Jane McQuillen
    Portfolio Manager and Head of ESG,
    ClearBridge Investments

    In our view, contributions to large-scale challenges related to climate change will have to come from all sectors. Clearly, renewables cannot do it on their own. Many investment-driven innovations outside of renewable energy are combating climate change and its effects.

    Climate change in emerging markets

    Manraj Sekhon
    Chief Investment Officer, 
    Franklin Templeton Emerging Markets Equity

    Emerging markets vary considerably in their approaches to mitigating climate change. Key countries have announced climate-aware ambitions and plans to tackle major environmental concerns. Companies are preparing for climate change in multiple ways. Our local presence in EMs positions us to capture potential opportunities and advocate positive climate action with companies.

    Investors, Policy Driving Fixed Income Greening

    Strengthening the case for ESG investing in fixed income

    Western Asset

    In light of regulatory requirements, client demand and prudent risk management commensurate with fiduciary duties, asset managers are moving toward a more holistic and robust integration of ESG considerations. Increasingly, asset managers are engaging with clients to understand the nuances and the impacts of their specific ESG requirements and specific screening requirements on portfolio construction and risk-return targets.

    ESG integration in global fixed income markets is accelerating

    Jaap Willems
    Senior Quantitative Research Analyst/Co-Head Global Macro ESG, 
    Templeton Global Macro

    Vivian Guo 
    Senior Research Analyst/Co-Head Global Macro ESG, 
    Templeton Global Macro

    ESG factors are quickly becoming relevant to an increasing breadth of investors, not just as a matter of principle but as recognition of the exigent risks to regions, economies and capital markets. In upcoming years, we expect to see a period of significant engagement where contacts with government officials are leveraged to stress the importance of confronting ESG issues and identifying the tools that countries have at their disposal to address them.

    ESG momentum propels corporate credit

    William Vaughan 
    Research Analyst,
    Brandywine Global

    While active ownership and engagement have traditionally been the domain of the equity investor, we are increasingly seeing our ability as corporate bondholders to drive the conversation with companies through our own active engagements as well as through collaborative engagements. Engagement can help recognize companies dedicated to improving ESG metrics or identify shortcomings and encourage remediations for companies with low ESG scores.

    Changing climate drives growth in green bonds

    David Zahn 
    Head of European Fixed Income,
    Franklin Templeton Fixed Income

    ESG integration and regulation is a continually evolving and improving process, and something we spend a lot of time to ensure we remain at the forefront. Green bonds—issued by companies and governments for specific environmental aims—are the largest labeled bond offerings within ESG, and likely to continue growing.

    Alternatives Making Inroads in ESG Efforts

    Progress toward sustainability in US real estate

    Katie Vaz
    Managing Director,
    Clarion Partners

    ESG programs and initiatives present key opportunities to align real estate portfolios with short- and long-term policy at all levels of government. One critical way real estate portfolio managers can address ESG objectives is during the acquisition process. When a new acquisition is being considered, an ESG new acquisitions due diligence scorecard can be utilized to assess how the asset performs with regard to a number of ESG criteria.

    Hedge funds ramping up quickly on ESG

    Dan Elsberry
    Senior Managing Director,
    K2 Advisors

    Lilly Knight

    Co-Head of Investment Management,
    K2 Advisors

    There is an enormous scope of trading instruments represented in the hedge fund space, and some may be difficult to assess from an ESG perspective. While hedge funds have been slow movers in adopting best practices in terms of sustainability and diversity and inclusion, this is changing. They are moving more quickly toward adopting ESG best practices but, in some instances, may not be moving fast enough to meet client demand.

     

    Global Investment Outlook allows the Franklin Templeton Investment Institute strategists to highlight manager’s views on markets across the firm. The mission of the Investment Institute is to deliver research-driven insights, expert views and industry-leading events for clients and investors globally through the diverse expertise of our autonomous investment groups, select academic partners and our unique global footprint.

    Two related Franklin Templeton Thinks publica¬tions of note are Allocation Views, produced by Franklin Templeton Investment Solutions, which offers you our best thinking on multi-asset portfolio construction; and, Macro Perspectives, produced by the Investment Institute, featuring economists from across the firm dissecting key macroeconomic themes driving markets.

    ENDNOTES

    1. COP26 stands for “Conference of the Parties” and is the next annual United Nations (UN) climate change conference to be held November 1-12 in Glasgow, Scotland. Attendees are the countries that signed the UN.

    WHAT ARE THE RISKS?

    All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Bond prices generally move in the opposite direction of interest rates. Thus, as prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Investments in lower-rated bonds include higher risk of default and loss of principal. Changes in the credit rating of a bond, or in the credit rating or financial strength of a bond’s issuer, insurer or guarantor, may affect the bond’s value.

    Impact investing and/or Environmental, Social and Governance (ESG) managers may take into consideration factors beyond traditional financial information to select securities, which could result in relative investment performance deviating from other strategies or broad market benchmarks, depending on whether such sectors or investments are in or out of favor in the market. Further, ESG strategies may rely on certain values-based criteria to eliminate exposures found in similar strategies or broad market benchmarks, which could also result in relative investment performance deviating. Investment in the commercial real estate sector, including in multifamily, involves special risks, such as declines in the value of real estate and increased susceptibility to adverse economic or regulatory developments affecting the sector. Investments in infrastructure-related securities involve special risks, such as high interest costs, high leverage and increased susceptibility to adverse economic or regulatory developments affecting the sector. Investments in fast-growing industries, including the technology and health care sectors (which have historically been volatile) could result in increased price fluctuation, especially over the short term, due to the rapid pace of product change and development and changes in government regulation of companies emphasizing scientific or technological advancement or regulatory approval for new drugs and medical instruments. Special risks are associated with investing in foreign securities, including risks associated with political and economic developments, trading practices, availability of information, limited markets and currency exchange rate fluctuations and policies. Investing in the natural resources sector involves special risks, including increased susceptibility to adverse economic and regulatory developments affecting the sector. Diversification does not guarantee profit nor protect against risk of loss. China may be subject to considerable degrees of economic, political and social instability. Investments in securities of Chinese issuers involve risks that are specific to China, including certain legal, regulatory, political and economic risks.

    Any companies and/or case studies referenced herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio.