Encouraging insurance companies to invest in a sustainable fashion was the theme of one of the presentations at the Rendez-Vous de Septembre in Monte-Carlo this year. Asia Insurance Review caught up with Schroders global head of stewardship Jessica Ground to discuss the question of convincing insurance investors that they must ‘be engaged’ in their efforts to invest sustainably.
The main thrust of the sustainable investing pitch for insurers focuses on consideration of environmental, social and governance (ESG) issues and in attempting to embed such ESG considerations into the investment process. Since insurance companies are generally long-term investors, this focus on future sustainability is particularly important.
The Schroders Institutional Investor Study 2018 indicated that the majority of institutional investors globally believe sustainability is set to play a more important role within their portfolios over the next five years.
The main takeaways from the study showed that:
- While the outlook for incorporating sustainability in institutional portfolios is strong, sustainability currently plays a muted role in investment decision-making.
- Larger institutional investors are more focused on improving the sustainability of their portfolios’ investments and say sustainability is of greater influence on their investment decisions.
- Investors focused on sustainability have greater levels of confidence in their ability to reach their performance objectives.
According to Schroders global head of stewardship Jessica Ground, the insurance industry is waking up to sustainable or responsible investing but there is still a lot of education that needs to take place. “I think, for most insurers, even ones that are fantastic at thinking about these things deeply on the risk side, don’t think about them on their investment side. There is still a lot of linking and education to do.”
Ms Ground is conscious that the lack of considered thinking about sustainability of investments from insurance companies is partly because they have had other, more pressing, priorities to deal with in recent years. “Within insurance investment there has been a lot of emphasis on asset liability matching or solvency and how this impacts on rates. These have been huge headwinds to deal with on the investment side. You can’t underestimate the significance of those and I think it’s really only very recently that we have started to think about these future risks,” she said.
In other words, the agendas of leading insurers have been monopolised by other regulatory issues leaving them little time to consider the question of how sustainable their investments are. “What have we thrown at insurers? What have the regulators thrown at them? There has been Solvency II. There has been MiFID II. I think insurers haven’t had much bandwidth to think about sustainability and are only really just starting to do so now,” Ms Ground said.
The wild frontier
So, in some ways Schroders is pioneering the issue of sustainability in insurance investments, perhaps one of the reasons that it was a focus in Monte-Carlo this year. “It’s still pretty early days of making those links between everything you can think about on the underwriting side with the need to feed them through to the investment side of the business,” she said.
Does Schroders Asset Management go to insurers and suggest they outsource a portion of their business to be managed in a sustainable manner and then, once they are clients, try to build the sustainable profile of their entire investment portfolio? “Yes, and what we try to do is be holistic about it and use a lot of different tools. If you look at long-dated bonds, it’s a different focus from one where you are looking at real estate or alternatives,” said Ms Ground.
“A lot of it is about how we can help you think about it. The first step is to realise that you probably need to think about this as a risk in the same way that you think about other risks. You need to realise that the risk is not being captured and then maybe think about what that means for different asset classes and the duration of different investments,” Ms Ground said. “Some people come to us with regulatory questions or perhaps they are just thinking about it on the equity side. We help them to realise that it’s perhaps relevant to more of their investments than they realise.”
More than simply screening
For equities, is there a sustainable screening process? “Quite often the conversation starts with screens. ‘We don’t want to have this in our portfolio.’ Some of the big insurers are already announcing their divestment from things like tobacco and coal. That’s a starting point,” Ms Ground said.
“Then, normally, the conversation goes into screens. They sound easy, but they can be really quite complicated to manage because they might increase your tracking error or reduce your factor exposure. So we have to implement screens in a thoughtful way that will still give you the investment profile you want. Screens are quite a blunt tool so we try to get clients to move the conversation on to adopt a more holistic approach,” she said.
Is Schroders finding that insurers are willing to listen to sustainable story? “Over the past couple of years we have tried to elevate it up into the conversation. There is also regulatory pressure. Asia is probably less focused on this - but I can see it coming because what we see is all the insurance regulators meeting together to talk about these things. I think Asia is going to be a fast follower,” said Ms Ground.
Is there a trade-off in terms of lower returns when using sustainable screens? “Very broadly, if you have a few screens over the very long term, it won’t impact you. However, in any given year it can increase your volatility and some screens can really impact your exposure. So, if you wanted a lot of income and you wanted to be fossil fuel free, you would have to think quite carefully about active management. Because if you just take out a lot of those stocks, your income goes down and you probably won’t make your targets,” said Ms Ground.
Most insurance companies entertain risk on the underwriting side of their business, so on the investment side, they don’t really want to have any substantial risk of any sort. How does an overlay of sustainability affect that? “Is this going to supplant asset liability matching or people thinking about all those needs? No,” said Ms Ground. “But realistically, because insurers think deeply about asset liability matching, the right kind of duration and things like that, this can be quite helpful because we can be more explicit about the sustainability risks that we see on those horizons,” she said.
While screening is often the starting point of a conversations on sustainable investment, increasingly the conversation expands to include the integration and engagement on ESG into portfolios. “I think our understanding of different sustainability risks and when they are potentially going to impact portfolios can then help us to tailor it within the constraints of the insurer’s liability,” said Ms Ground.
The enduring message seems to be that ESG investing looks to understand the quality, growth and sustainability of a business when it is being considered for a portfolio. Because of the nature of insurance funds as long-term investors, it is important to understand a company’s prospects as an investment over the long term – and therefore how the target company engages with the real world is far more important than focusing on short-term quarterly results. A