What is active ownership, and how does it play a role in ESG investing?
ESG investing is big news at the moment. In a nutshell, ESG means that environmental, social, and governance factors are taken into consideration when investing, as well as the usual factors such as risk and how an investment fits into your portfolio. Active ownership is one way investors can incorporate ESG into their portfolios. But what is it?
When you think of how to implement ESG investing, you may think about excluding certain stocks. You might want to avoid companies that operate within certain industries or exclude companies because their social practices don’t align with your beliefs. For example, you might not want to invest in companies who perform testing on animals. “Negative screening” is the term for this type of ESG investing. Whilst it is a popular ESG strategy, it’s not the only option available if you want to consider ESG factors.
Alternative ESG strategies include positive screening, where you actively invest a portion of your investment portfolio into stocks that match your ESG criteria, and active ownership.
What is active ownership?
Active ownership means using your shareholder rights to influence a company’s behaviour. This could be by voting at a shareholder meeting or engaging with companies that you’re invested in. It can be an effective way to encourage businesses to consider a range of ESG issues and change their practices.
By becoming a shareholder in a company, an active ownership strategy can hold companies to account and exact change. As this method relies on shareholder power, it’s often more effective when it’s carried out by institutional investors or cooperatively. Institutional investors could include entities such as pension funds.
Does active ownership work?
Results from active ownership can take time and long-term relationships to deliver change. However, it can still be an effective way to instil ESG practices in businesses.
A recent example of active ownership occurred during last year’s COP26 climate conference in Glasgow. According to ShareAction, 115 investors, representing $4.2 trillion (£3.17 trillion) in funds, wrote to 63 banks, including JPMorgan Chase and Deutsche Bank. They called on the banks to strengthen their climate and biodiversity strategies. As investors can represent significant assets, such demands can encourage behaviour that considers ESG criteria. The companies that fail to respond to such demands could face challenges from some of their shareholders.
In May 2021, an investor coalition representing £140 billion in assets led by ShareAction demonstrated the power active ownership can have. Following engagement with seven institutional investors, Tesco committed to increasing its sales of healthier food and drink products across all of its group retail businesses. The supermarket has committed to increasing its share of healthy products from 58% to 65% of sales by 2025. Therefore, by engaging with Tesco, this coalition could be the catalyst for positive change.
By embracing such changes, businesses can seize opportunities too. Embracing behaviour that promotes health and social benefits could be more secure, and so more profitable in the long term.
Can individual investors use active ownership to encourage ESG changes?
As mentioned above, active ownership works best when investors with significant stakes in a business demand change. It’s therefore usually a strategy for institutional investors, but there are ways in which individual investors can have an impact.
Investing through institutional investors who use their shareholder power is one option. Your pension provider, for example, is likely to have significant assets under management, which could mean it has the power to use its ownership to encourage ESG practices.
One of the challenges for individual investors is accessing and understanding the information from institutional investors that show how they’re using their shareholder power. However, as active ownership and ESG become more popular, institutional investors are making information more accessible.
Legal & General, for example, offers a report that shows how they’ve used their shareholder power. In 2020, the institutional investor says it opposed 4,700 director elections due to governance concerns and voted in 66,037 resolutions worldwide. It also showcases some case studies that demonstrate how it has engaged with companies on a range of issues. In 2020, these included engaging with Facebook about privacy and with Boohoo on modern slavery and fast fashion.
ESG investing
If ESG is something you want to consider when investing, there are several ways you can do this. We’re happy to talk through these ways with you, whenever you need information.
It’s also just as important that you balance investment decisions with your own goals and risk profile. This is the biggest key focus of the work we do, and we are always happy to answer any queries. We’re here to offer you guidance and support, so please contact us if you would like to talk about ESG investing and the steps you could take to embrace it.