ESG Backlash Overshadows Power to Drive Better Returns: UK’s Biggest Fund Manager

The politicization of the acronym ESG risks overshadowing its power to drive returns for shareholders, according to the head of investment stewardship at the UK’s biggest asset manager, Legal & General Investment Management.

Taking environmental, social and corporate governance issues into account makes financial sense, said Michael Marks who is also head of responsible investment integration at the $1.5 trillion asset manager.

LGIM is “really conscious of the environment in the US around ESG,” Marks said in an interview in connection with the release of LGIM’s 2022 investment stewardship report. The London-based firm hasn’t shied away from using the label because that’s “what the market understands,” he said. “I prefer to say these are themes we focus on – people, health, climate, et cetera – because these are financially material matters.”

ESG, once shorthand for the booming sustainable investing world, has become an unlikely bogeyman of the American Right. Prominent Republicans from Ron DeSantis to Mike Pence have said ESG is a threat to American capitalism by imposing a liberal and undemocratic agenda on corporations.

Such vociferous opposition to the strategy has led banks and asset managers to downplay their sustainability strategies and even stop speaking in public about what was once a favorite topic for finance executives.

But LGIM has said it will support shareholder resolutions that request America’s biggest banks to phase out financial support for fossil fuels, and it has also co-filed a resolution that would require Exxon Mobil Corp. to disclose the economic impact of an early retirement of its fossil-fuel assets.

The extent to which ESG investment strategies deliver better returns than their conventional equivalents remains a topic of debate. Last year, European and US ESG equity funds tracked by Bloomberg performed marginally better, on average, than the MSCI World Index, which fell 18%. So far this year, ESG funds have underperformed on average, according to data compiled by Bloomberg.

Over time, however, ESG funds tend to outperform more consistently, Morningstar data suggest. US large-cap funds with a sustainable focus returned an annualized 11% over the past five years, compared with 9% for conventional funds, according to figures provided by Morningstar Direct. Globally, sustainable funds delivered just under 7% in the period, while regular funds achieved 5.4%, the market researcher said

LGIM said in a report published Tuesday that it cast more than 171,000 votes at corporate annual meetings last year, and engaged with 902 companies on everything from carbon emissions to executive compensation and labor standards. The asset manager also expanded the scope of its climate impact pledge, a specific campaign targeting reductions in corporate emissions, by more than fivefold to over 5,000 companies.

Engagement, otherwise known as stewardship, is the go-to strategy for fund managers claiming to target ESG goals since the alternative — divestment — just hands the underlying ESG issue over to the next investor, rather than trying to fix it. Still, engagement has been slammed by critics as a smokescreen for inaction.

While LGIM is often hesitant to draw direct causality between its engagements and a specific corporate outcome, companies take note when LGIM comes asking questions “because of our scale,” Marks said. And investor coordination can amplify the impact when a large group of shareholders presses for change, he said.

When it comes to engagement, the target companies can be like “a boat floundering on rough seas,” while fund managers such as LGIM “want to be the tug that brings them safely to shore,” Marks said.

Photograph: Electricity towers, power lines and a wind turbine near Barnstorf, Lower Saxony, Germany, on Tuesday, Aug. 23, 2022. Photo credit: Krisztian Bocsi/Bloomberg