Introduction: Developing ESG expectations

A clear set of expectations or objectives provides logic and coherence to the investment process over time. Expectations also assist investors in setting the context and formulating a framework of questions to ask when selecting, appointing and monitoring investment managers.

Asset owners/investment managers may have differing investment beliefs and expectations. For example, an asset owner/investment manager who believes that ESG factors will materially impact the financial performance of their funds will likely be concerned with how ESG factors are analysed, managed and disclosed and how these factors impact investment decisions. Likewise, an asset owner whose investment strategies are influenced by certain values or themes will likely be concerned with their managers’ capability to accommodate these requirements.

Regardless of differing beliefs and approaches, an asset owner should ensure that a coherent set of expectations is communicated to agents acting on their behalf. They can also seek to align incentive structures with these expectations.

The development, application and review of ESG-related expectations is a continuous process.

To ensure that ESG-related expectations are systematically applied, they should be translated into decision-making criteria and communicated to investment managers. Expectations and decision-making criteria should be clearly understood by those responsible for these activities.

ESG-related expectations and decision-making criteria will evolve as an asset owner’s perspective of market factors and sustainability issues changes and as the responsible investment industry matures. Any substantial changes to an asset owner’s expectations for investment activities should be communicated to their investment managers and agreed upon.

Identifying and understanding ESG-related expectations is admittedly a challenging process that requires investors to reflect upon their entire organisation, from stakeholders to strategy and from governance to processes and products.

1.1 Reviewing your responsible investment expectations

As a starting point, asset owners should:

• ensure that the fundamental rationale for pursuing responsible investment is clearly understood;
• familiarise themselves with their responsible investment policy and voting and engagement policy;
• consider whether they would be willing to assume an external manager’s own responsible investment policies. External managers may not have the capacity to develop a customised responsible investment policy for a specific mandate and may consider their own policy to be sufficient;
• consider expectations for an investment manager fs approach to relevant principles, policies, standards or codes of conduct and whether this reflects the asset owner’s own approach or stated commitments;
• consider the extent to which ESG-related expectations are a contributing factor to the selection process or a deciding factor.

Investors in pooled investment vehicles may have limited ability to influence the responsible investment policy or governance for a pooled fund after they have made the investment decision. It is therefore particularly important to ask appropriate questions during manager selection to ensure that the investment manager selected is aligned with the asset owner’s expectations. After investment, asset owners can continue dialogue with the manager and work with other investors to signal the on-going importance of responsible investment and set the context for subsequent investments.

1.2 Setting expectations for how a manager identifies and manages ESG factors in the portfolio

Asset owners should identify what expectations they have for:

• the skills, competencies and experience of individuals charged with implementing responsible investment procedures (e.g. ESG specialists, investment analysts, portfolio managers);
• which ESG factors are areas of priority focus;
• how ESG factors are incorporated into the investment process;
• how ESG factors are incorporated into different asset classes (e.g. listed equity, fixed income, property) and investment strategies (e.g. active, passive, quantitative, fundamental);
• how the external manager integrates information from voting and engagement activities into investment analysis.

1.3 Setting expectations for how a manager undertakes voting and engagement activities

If an asset owner chooses to have their manager undertake voting and engagement activities on their behalf, they may consider: 

• defining expectations for the alignment of engagement and/or voting activities;
• decide whether it is important if the investment manager outsources voting and engagement activities or undertakes them in-house. A manager that undertakes voting and engagement activities in-house will benefit from being able to integrate the information and outcome of these activities with investment decision-making. On the other hand an investment manager may choose to outsource voting and engagement activities to ensure that they are conducted by specialists and in order to concentrate on their own areas of expertise;
• define expectations for voting and/or engagement processes including:
  • how relevant standards, codes of conduct and principles are incorporated into these activitiesp;
  • how information from voting and engagement activities feeds into investment decisions;
  • what issues/industries they wish their manager to engage on/with;
  • escalation strategies when an engagement is unsuccessful.
• Decide if a manager is adequately resourced to be involved in constructive engagements.

If an asset owner chooses to undertake voting and engagement activities themselves or outsource these activities to a service provider, they may consider the following:

• expectations for how their investment manager may provide information to help inform the asset owner’s/service provider’s voting and engagement activities;
• if and how the asset owner/service provider will share information from their voting and engagement activities with their investment manager in order to inform their investment decisions.

1.4 Setting expectations for how ESG factors are reporting during investment monitoring

Asset owners may consider:

• what ESG information should be provided by the investment manager and how frequently;
• if and how reporting on responsible investment practices will be integrated with other reporting activities and into regular asset owner/investment manager meetings;
• whether some reporting can be done in person or over phone calls.