EY report uncovers substantial variation in ESG integration, challenges to full-scale adoption
While support for responsible investing across stakeholders has shot up considerably, not all asset managers are able to keep pace with the market’s most stringent ESG demands.
That was one of the overarching findings in a new report from EY, which surveyed participants from 20 major Canadian asset managers with a collective AUM of over $2.5 trillion.
When asked where they would place their offerings on a spectrum of ESG propositions ranging from “Traditional” (limited or no regard for ESG) to “Impact-driven” (aiming for financial return and measurable social or environmental impacts), the majority of firms identified their firms as fitting somewhere in the middle with either “Responsible” (ESG integration primarily to mitigate risky ESG practices) or “Sustainable” (ESG solutions that may or are expected to enhance value) offerings.
Overall, half said they have full ESG integration across all their portfolio managers and investments, and 10% indicated they are just in the early phases of integration. The majority said they intend to move further along the ESG proposition spectrum once they’ve incorporated ESG considerations into all their current products.
Institutional investors continued to be the primary driving force behind ESG demand as they increasingly require asset managers to be signatories to the UN Principles for Responsible Investing. Large investors are also looking for more visibility on steps taken to support ESG integration in the investment process, as well as additional support from asset managers with respect to education, idea sharing, and thought leadership.
Activity on the retail side is more fragmented, EY said. Some are taking a reactive stance by waiting for client demand to drive ESG fund development; others plan to establish themselves as fully ESG integrated, and are currently working on expanding their offering to improve the breadth of available impact-driven products.
“Asset managers serving high-net-worth clients — particularly those serving the second generation of these clients — notice that these clients are interested in investing their money for purposes beyond financial return,” the report said.
The report also touched on challenges that asset managers are facing with respect to promoting ESG. One hurdle, according to EY, stems from a lack of knowledge among advisors, which make them unprepared for ESG conversations even when clients are.
“More than half of the survey respondents mentioned data, or the lack thereof, as being the biggest challenge of ESG integration,” the report said, underscoring issues such as gaps in data for some asset classes and a lack of granularity in certain areas. One source, the report said, found materially different ESG scores across third-party providers, making the information impossible to use as is.
Other obstacles to full-scale ESG integration were:
- Lack of standardization in company disclosures;
- Lack of standard taxonomies to organize ESG data from different sources;
- Continuously expanding reporting requirements (which makes it difficult for less-equipped managers to keep up);
- Growing pressure for transparency from clients; and
- A limited pool of talent with ESG and technical investment expertise in Canada.
"Quality and standardization of data and taxonomies will play a key role in improving ESG integration in the coming years, but firms cannot overlook the importance of talent in this equation," says Gagnon. "Recruiting is top of mind, but the scarcity of advanced expertise and experienced talent will escalate the importance of upskilling and knowledge platforms to fill the existing advisor knowledge gap as demand for ESG grows.
“While we're still witnessing the early stages of its impact on capital markets, ESG represents a fundamental change to the traditional investment approach — both from a risk management and an alpha generation perspective,” said Jean-François Gagnon, EY Canada’s Sustainable Finance Leader. “As more clients start to demand the same level of transparency on their portfolio's ESG impact as on its financial performance, asset managers who are able to deliver on both dimensions will gain a considerable competitive advantage.”