14 August 2017
This guest blog forms part of our responsible investment in practice series where we talk to a number of investment managers about their approach to responsible investment in different asset classes.
Rebecca Sherlock is a portfolio manager on the Global Listed Infrastructure Securities team at First State Investments.
Q: How do you incorporate ESG into your investment approach?
Environmental, Social and Governance issues are fundamental to infrastructure companies, given their service obligations and moral accountability to the communities in which they operate. Accordingly, we ensure that ESG factors are fully integrated into our investment process.
Following thorough company research, we allocate each company a Quality score. This proprietary score is based on 25 criteria that we believe influence stock returns in general and infrastructure securities in particular. ESG factors account for 20% of these criteria.
The companies are then ranked by Quality score. Each company’s Quality ranking is combined with a Value ranking, to give an overall ranking for all the companies we research. This ranking system underpins our entire stock selection and portfolio construction process.
Q: What is distinctive about your ESG approach?
We believe that our approach to ESG is differentiated by the following four key factors.
- We have always believed in the significance of ESG. ESG considerations have been an important part of our decision-making process since the inception of our strategy, 10 years ago.
- ESG factors are fully incorporated into our investment process, rather than simply being used as a screening tool.
- Our team has a specialist knowledge and understanding of the infrastructure market, making us uniquely well-positioned to form views on each company’s approach to ESG and on the materiality of ESG issues.
- Rather than taking an exclusionary or passive / observer approach, we believe it is important to engage with companies, to encourage ESG best practice for the benefit of investors.
Q: What is the role of ESG specialists in the fund? How much do the fund managers do themselves?
Responsibility for ESG integration sits firmly with our investment team. ESG assessment of each stock is carried out by the team member responsible for the research coverage of that stock.
Each investment team at First State Investments contains a Responsible Investment (RI) Representative who acts as the interface between the team, other investment teams and the broader organisation on ESG and stewardship matters. I have been the RI Representative for the listed infrastructure investment team for the past six years.
More broadly, First State Investments employs a dedicated RI team, which supports each investment team by sourcing relevant research, helping to refine processes, coordinating collaborative engagements and providing advice on technical issues.
Q: How do you engage with the companies you invest in?
We believe there is a link between good ESG practices, and strong, sustainable, long-term shareholder returns. Accordingly we seek to engage with companies regularly in order to highlight areas for potential improvement. This can be done in several ways.
Firstly, we raise issues in meetings with company management, in order to put our view across and to understand the situation from the company’s perspective. If we don’t see change, we will then contact the Board, for example by writing a formal letter, outlining our concerns. If we feel that our concerns are still not being addressed, we may vote against the company via proxy shareholder voting.
In instances where management does not respond adequately to engagement, this may impact negatively on our ranking of the stock, which could result in our divesting ownership. We view this approach as being an important element of our fiduciary responsibilities.
Q: What are the biggest ESG risks facing the fund?
The most material ESG theme facing the fund is climate change. Efforts are under way to de-carbonise the world’s economy in order to reduce global warming, focusing on reducing fossil fuels in the generation of electricity.
These measures are leading to substantial investment opportunities, especially in the renewable energy space, as wind and solar take market share away from old coal-fired and nuclear power stations.
As a result, renewable energy is currently experiencing a virtuous cycle of falling costs, improving productivity and growing market share. In contrast, non-renewable energy is in a vicious cycle of declining market share, reduced revenues and rising costs.
Over the next decade we expect wind and solar to expand their market share of power capacity from under 20% today to over 30%. Large-scale capital investment in renewables is being led by large cap, publicly-listed electric utilities including NextEra Energy, Iberdrola and Xcel Energy.
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