Consideration of SDG contributions in investment strategies is gaining ground, say investors

By Hans Op ‘t Veld, Principal Director Responsible Investing PGGM, Chairman of the SDI AOP Members & Markets Committee

The community we are building around the SDI AOP, the platform aiming to be a standard setter in measurement of contributions of investments to the UN Sustainable Development Goals, is taking shape. Instrumental in the development and buildout are the conversations we have with asset owners and asset managers. We are all on a similar journey finding our way in the impact investment space and we all face the same challenges. Through a series of roundtables in various geographies we are having engaged discussions that lead to very interesting insights into the direction of travel for the platform.

From the engaged discussions in roundtables in the USA as well as in the UK and Sweden with both asset owners as well as asset managers there are notable takeaways that are worthwhile sharing with you. First of all, we are seeing genuine interest by asset owners to include consideration of the effects of their investments on the world in their thinking. As one of the participants in the roundtables pointed out, the view that this is part of being a fiduciary to the ultimate beneficiaries is permeating into the investment beliefs. At the same time, the shared feeling is that this needs to be considered honestly and without overstating the contribution that investors can make. Finding a solution that does this is very much part of the journey.

This has important implications when considering setting goals and reporting on contributions to the UN Sustainable Development Goals. First, measurement of the contributions should be based on traceable evidence. It implies that it requires purpose-built data rather than repurposing ESG data, which sometimes is being used as a solution. Second, it is important to consider the role of the investor in accelerating change. This specifically pertains to the way in which we invest – I will come back to that later. Third, for investors to be able to have conversations with investee companies and/or issuers, it is important to find a common language, which is what the SDI framework intends to be.

Asset owners in the roundtables frequently cited the importance of taking a long term view on how investments impact the world in which we live. The longer the time horizon, the more relevant these issues are as the ultimate beneficiaries will not only need financial security but also a world in which they can enjoy this. This explains why asset owners such as pension plans as long term investors are driving the discussions. We are seeing that climate change currently is on the forefront of these considerations. In part due because of regulation but also from the perspective of good governance and risk management, the investor community has developed methodologies to measure and report on the issue. While this is primarily oriented towards the risk, there certainly also is increasing demand for the opportunities and solutions side of this issue. Investments in climate solutions are essential to be able to accelerate transition and are therefore both interesting from an impact point of view but simultaneously also from a more traditional investment perspective. Investments in solutions might well be a leading indicator to future financial performance.

Consequently, participants in the SDI AOP roundtables are keen to learn about the existing and – perhaps even more relevant – potential technologies companies are developing that will help to drive change. Current innovative technologies are being captured by the SDI AOP data already, but we are now testing a methodology to also determine which companies are likely to contribute to this going forward. This is based on data on the research that companies are involved in to create technologies and solutions. Most companies do not readily share that information in reporting, so we have developed another way to look at this issue, drawing on information on research and development directed at solutions contributing to the SDGs. Investors are keen to use this information as it might help them to allocate capital to those technologies and companies that are most likely to play a role in accelerating solutions to environmental and social challenges. It will be interesting to track the way in which the investments in innovations are going to materialize in SDG solutions and shape the change of companies through time.

Another issue that has been debated in the various roundtables centered around the question whether the way in which investment allocations are being implemented matters. As has been the case with many data sets, the SDI AOP data originally pertained to publicly traded companies and has since progressed to include bond issuers that might or might not be public. The founding members of the SDI AOP (APG, AustralianSuper, BCI, PGGM) have very different approaches to investments in this space. Some are predominantly passive in their investment approach where others have implemented an active approach. Arguably tracking an index passively does not leave room to claim impact credibly, as there is no intentionality involved in holding the individual companies that happen to be an index constituent. Interestingly we do see that some investors are combining a passive investment approach with a structure that explicitly considers the exposure of companies contributing to the SDGs. Investors are building structures to either include SDI contributions into the selection of eligible companies or by tilting the weight towards contributing companies. Key in doing this is that consistent, robust and verifiable data is being used, in order to alleviates greenwashing concerns that might linger around impact measurement. We have seen the launch of the first indices that use this methodology, using SDI AOP data to achieve higher weights for companies that contribute to the SDGs. Here we witness an intentional increase in exposure to solutions, even though the implementation style is passive.

A related discussion is about the question which types of investment are best suited to deliver impact. As mentioned earlier the starting point of the SDI AOP has been the equity universe, but the ultimate goal is to be able to measure contributions throughout the entire asset mix of institutional investors by rigorous application of the methodology in every asset class. The founding members of the SDI AOP have applied the same taxonomy and rules to those investments that are not yet mapped. We already saw the importance of this earlier on, when the community quickly has asked the SDI AOP to broaden the scope to include bonds. This is unsurprising from the perspective of bonds being a source of primary capital, whereas equities are secondary capital. Each time an issuer is reaching out to acquire new (debt) capital, investors have the opportunity to weigh the merits of an allocation of capital to the activities of the particular issuer versus alternatives and as such may ensure that companies are nudged in the right direction. In a different guise this holds true for private market investments as well: by gravitating towards those assets that offer investments into solutions there is an immediate benefit. This is something that the SDI AOP will certainly consider in setting priorities for further development.

In the roundtables we also reflected on the way in which asset owners should look at contributions. The SDI AOP has chosen to focus on the revenues that are being generated by products and services that contribute. The reason for this is the ability to pinpoint exactly what the source is, without having to pass judgement. Still, there is a difference between the financial value of a product or service being produced and its efficacy. Some solutions might generate high revenues but low impact due to their application and vice versa. An important example is the case of vaccine production. Providing information on a revenue stream is evidence of the ability to generate impact but it is not until the vaccine is actually being offered to a person when it delivers on that promise. Moreover, the accessibility of the solution to those who need it is part of the consideration. This probably means that refinement that enables us to bridge the gap between production and access/application would be a welcome addition. One of the elements that is of particular interest in this perspective is the question in which geography a particular product or service is being made available.

The roundtables made one thing clear: we are on an interesting path and by pooling knowledge we learn from one another. We have an active user advisory group and a research committee who are picking up on these themes and help to develop the ideas further into data and applications so we can all benefit from our combined expertise. While there is a long list of things that we have yet to figure out, together it is possible to navigate the issues and deliver on our objective to accelerate investments into the solutions to the worlds’ problems while delivering on our financial obligations.