Investors allocating capital to companies that improve society – and withdrawing it from those that do not. 

The executive leadership spills across major Australian publicly listed companies in recent months herald a new era of accountability for large corporates and how they engage around environmental, social, cultural and governance themes. 

Most recently, the fallout from Rio Tinto’s explosion of the sacred Juukan Gorge Aboriginal site, resulting in three executives stepping down from the company, should finally lay to rest the idea that it is only what can be measured that matters.

Mirroring the community outrage over recent events, the Australian responsible and ethical investment community – notably super funds and asset managers – has quickly and strongly responded to the recent turn of events, exercising ownership responsibilities at a new level and delivering outcomes that in its absence would have been unlikely.

Underpinning this is the recognition that, quite simply, companies that create a safe working environment, protect human rights, promote diversity, respect stakeholder communities and minimise their contribution to climate change make better investments.  

Responsible investors are seeing that factoring in people, society and the environment, alongside financial performance, when making and managing investments leads to better informed investment decisions. It enables them to better navigate turbulent times, avoid the biggest risks and capture more opportunities.

Strong funds growth 

It is not surprising then to see Australia’s responsible investment market continuing its upward trajectory, with the Responsible Investment Association Australasia’s newly published Responsible Investment Benchmark Report Australia 2020 showing that as of 2019, responsible investment now represents 37% ($1,149 billion) of Australia’s total $3.155 trillion in professionally managed assets – a rise of 17% from 2018.  

The superior financial performance of responsible investments continues to be a defining factor, backed up by wide-ranging global and national data. 

RIAA’s study shows responsible investment Australian share funds and multi-sector growth funds outperforming mainstream funds over 1, 3, 5 and 10-year time horizons. 

Notably, this outperformance has continued amidst the massive market disruption brought on by the COVID-19 pandemic.

How funds invest responsibly

There is not one specific way to engage in responsible investing and investment managers are applying a range of approaches.

Consideration of environmental, social and corporate governance (ESG) factors is now the expected minimum standard of good investment practice, with $1 trillion of Australia’s assets under management (AUM) managed using ESG integration as a primary responsible investment approach. 

“ESG integration” involves the explicit inclusion by investment managers of ESG risks and opportunities in financial analysis and investment decisions based on a systematic process and appropriate research sources.

Corporate engagement is key

This ESG approach is closely followed by corporate engagement and shareholder action. This may be conducted through direct corporate engagement such as communication with management or boards, filing or co-filing shareholder proposals, and proxy voting in alignment with comprehensive ESG guidelines.  

In Australia, 45% of self-declared responsible investors are engaged in voting across all their holdings.

It is this commitment to ESG integration, combined with active ownership from a notable proportion of Australia’s largest institutional investors, that has culminated recently in the shareholder advocacy against companies on issues such as Indigenous cultural protection, sexual harassment and climate change. 

Where engagement hasn’t managed to influence corporate behaviour, this has played out through large votes against boards and leadership spills.  

Screening

Negative screening remains another important responsible investment strategy, and weapons, tobacco, gambling and pornography are the most frequently screened categories. 

The screening for fossil-fuel exposures is beginning to catch up to consumer expectations: in 2019, 19% of responsible investment AUM was screened for fossil fuels, up from 5% in 2018. 

The chart  below shows the main issues that responsible investors screen:

Climate change is a key area where responsible investors are taking a lead. Recognising the enormous risks climate inaction poses to the economy and, subsequently, investment returns, a growing number of Australian super funds are announcing their own commitment to reducing carbon emissions in their investment portfolio, in line with the Paris Agreement on climate change. 

This is an important signal that growing levels of capital are seeking to invest in companies making the shift to a lower carbon economy, and will increasingly influence markets and valuations. 

At the same time, financial regulators and central banks have been clear in their view of climate-change risks as “distinctly financial in nature”. 

Earlier this year, the Reserve Bank of Australia joined with more than 60 other central banks to warn of the significant financial and economic risks if more isn’t done to reduce emissions, and provide specific guidance on the integration of climate risks.  

Aligning investments and personal values

From climate change to modern slavery, the attention investors are giving to these increasingly material issues aligns with the sentiment of most Australians. RIAA nationwide  research conducted earlier this year showed the overwhelming majority of Australians now expect their savings (87%) and superannuation (86%) to be invested responsibly. 

Two in three people don’t want their money causing harm to the planet – whether it be environmental degradation, fossil fuels or logging. Animal cruelty is another significant concern, along with tobacco, human rights abuses, weapons and firearms, and gambling.    

Moreover, the majority of people expect their money to go beyond “avoiding harm” and to “do good”, with renewable energy and energy efficiency, sustainable water management, and healthcare and medical products being priority areas. 

This helps explain the burgeoning market for impact investments, which has grown by 249% between 2017 and 2019, addressing various societal challenges while delivering strong, risk-adjusted, financial returns. 

Examples span diverse asset classes, and range from government-backed social housing bonds, to investments in enterprises providing jobs for people living with a disability, to investments in solar and wind assets to ramp up Australia’s renewable energy capacity. 

Encouragingly, the appetite to do more is there. Australian investors indicate they would like to increase their impact investing more than fivefold to $100 billion over the next five years. 

New investment options

With this level of change afoot, the investment industry is responding. A plethora of responsible investment options are emerging – from investment funds, super fund options, Exchange Traded Funds and more – in response to investor demands. 

But challenges remain in discerning the integrity of approach. RIAA’s Responsible Investment Certification Program has certified 200 products, helping to distinguish quality responsible, ethical and impact investment products, and providing confidence that a product is delivering on its responsible investment promise. Certified products can be located at RIAA’s consumer portal responsiblereturns.com.au. 

With more than a third of Australia’s assets under management now managed with a commitment to responsible investment, there’s a significant weight of capital willing to flex its muscle to ensure corporate Australia is acting in the best and long-term interests of all stakeholders. 

In addition to how a company looks after its staff, engages with local communities or handles executive remuneration, the onus is increasingly on listed companies to map and manage the positive and negative contributions they are making to the Sustainable Development Goals and Paris Agreement.

Whether it be divesting from unsustainable companies or engaging in shareholder engagement to drive better outcomes and accountability, responsible investors are fast becoming a force to be reckoned with. 

Companies that elevate consideration of broader stakeholder interests alongside those of shareholders stand to reap the rewards.