At the Janus Henderson Global Media Conference, “New Investment Paradigm: Uncovering Opportunities and Challenges,” our senior leaders and key portfolio managers from around the globe shared their insights and outlooks for their markets. In this session, Global Head of Product Will Lucken leads a discussion with Paul LaCoursiere, Global Head of ESG Investments, and Kelly Hagg, Global Head of Product Strategy on how to manage climate risks within portfolios and the challenges it presents.

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Louise Beale: Let’s now go to our next session and we are going to pose the question, how can active managers demonstrate sustainability credentials in a post COVID world? Now to answer that I’d like to hand over to Will Lucken who’s Janus Henderson’s Global Head of Product who will introduce his panel to you and hopefully answer that question. Will.

Will Lucken: Thank you, Louise. Yes, so good morning, good afternoon to all of you. Today we’ve got Paul LaCoursiere who is Head of ESG Investments and Kelly Hagg, who is Global Head of Product Strategy and ESG Distribution. And as Louise said, today we’re going to talk about how active asset managers can demonstrate their sustainable credentials in this post COVID world.

And from my perspective, clearly the COVID pandemic has had a galvanizing impact on societies, on individuals and on businesses, and everyone has had to respond to a global risk that we can look across to other potential global risks posed, such as climate risk, and see how that might be reflected, given the experiences of the pandemic itself.

We’ve seen that businesses have had to respond to government requests for support, for PPE, for equipment. To see how they considered furlough schemes, say here in the UK. To think about the moral question about whether they should be paying back the money for furlough schemes. To think about their role in society and how they’re perceived by consumers and also by their employees. And they’ve had to worry about their employees’ physical health and even think about their mental health.

And I hope to think that what this has meant is companies have become a little more humanistic in a commercial environment than previous. And that may well reflect itself in how they adopt and adapt to ESG policies going forward. But with that in mind, I’d pose a question to you, Paul, which is how do you think asset managers should actually respond to that changed approach when we make investment decisions?

Paul Lacoursiere: Yes, of course Will. As your question is focused on investment decisions, let’s assume for the moment that corporate commitments are already in place. So asset managers are supporting their employees, supporting communities, managing any related environmental considerations etc. But for making decisions within portfolios, the tools in the toolbox depend on the focus of the investment strategy that we’re referring to. If it’s an ESG focused strategy, that may prioritize making an impact on par with financial performance, a positive response can be the primary driver for those investment decisions.

So for example early in the pandemic imagine an investment strategy routing capital to finance increased production of medical or safety equipment. Now in an ESG integrated strategy, you’re thinking about how a positive response might relate to investment performance. And I think an interesting example is diversity and inclusion obviously became an increasing focus as the pandemic progressed, and there is an argument for prioritizing investments in companies with strong related characteristics based on a few things.

Evidence of better decision-making performance, so avoiding group think and things like that. Lower turnover statistics, meaning that there’s less business disruption. And a wider capture mechanism for customer preferences, which obviously has an impact on the top line. So it’s the best-case scenario when you could make that positive link between response and investment rationale.

Lucken: Thanks Paul. And so over to you, Kelly. From a client perspective, that response from businesses to the pandemic, do you think that influences the way that clients take decisions when they’re thinking about ESG investment?

Kelly Hagg: Yes, thanks Will. I do, and I think if you take a step back and you think about the human experience of living through the pandemic, one thing we’ve seen is people can really feel that there’s change that we can make. In other words we watched industries come together to try to tackle the global COVID pandemic. We watched governments come together to tackle this existential threat. And using that as a call to action I think investors or clients are thinking about pivoting to other existential threats. Some being obviously climate change, human rights issues.

And the question you often get is, how can I make a difference? Or, how? What’s different than things five years ago? And I think what’s different is measurement. I think there’s a commitment by governments to measure carbon emissions, to set goals against those measurements. There’s commitments by companies to measure how they approach diversity and inclusion. And there’s this sense that maybe we can solve some of these big problems. And you’re seeing changes of behavior. That’s the big thing.

People are choosing to drive different vehicles, they’re choosing to eat different, and they’re choosing to invest different and that’s the big thing we’re seeing on the front lines. Is that people can adhere themselves to goals that are focused on the future and they feel like they can be part of that. And they’re willing to build wealth and commit themselves to these goals in the future. And I think that’s the big thing coming out of the pandemic, is it’s been a call to action and with this notion that maybe we can tackle these existential threats.

Lucken: Thanks Kelly. And Paul, so Kelly mentioned climate goals. As an active asset manager, how do we manage climate risks within portfolios effectively?

Lacoursiere: I think there are two primary challenges to think about related to this. So the first is the quality of data. So while it is getting better, and as Kelly mentioned there’s a lot more encouragement coming from regulators on these points, many companies today don’t disclose basic climate metrics like carbon emissions. This leads data providers to perform a lot of estimation. So if you’re interested in attaching climate data direction to portfolio holdings, a significant portion of holdings in most portfolios will reflect estimated data that might be based on something like an industry average.

Also some climate risk measures project emissions far into the future as part of an industry budget, perhaps based on emissions that were originally estimated in the first place. So when thinking about tracking performance and making decisions using these data sets we must recognize the standard error is quite large and an overlay of judgement is quite important. And in many cases, it makes sense to feature climate risk in engagement directly with company management teams to get a better understanding of how they’re thinking about managing this at the issuer level.

Now the second challenge is, if you choose a divestment or an exclusion route, so you’re focused on selling any positions in portfolios in businesses that might exhibit a lot of climate risk today. We need to ask ourselves the question, is there a potential impact on investment returns? Now in my view this will vary by market and specific investment mandates, and it’s quite important whether our portfolio can hold derivatives or not. But on average I would argue that greening a portfolio tends to reduce the overall level of market risk present in that portfolio.

And you might say, well that’s great. Less risk is clearly a good thing. But we must remember that market risk and expected return are related and some investors need market risk to meet their financial goals and potentially liabilities that they’re on the hook for. And when you consider valuations in some market segments, particularly those that everyone is currently talking about allocating capital to, I think it is a reasonable conclusion that there could be an impact on return expectations going forward, and balancing that expectation is a challenge to be aware of.

But setting those challenges aside, we think it is incredibly important to manage climate risk in portfolios and a key for us is to ensure that we have the data in place, the expertise in place, to help clients on their individual journeys in manifesting climate risk management in their portfolios.

Lucken: Thanks Paul. It sounds like the data set is getting more complex but the sophistication of the delivery of that data and the understanding of that data is growing. I assume the same for our clients, that their sophistication and understanding of these issues is changing. Kelly, what does that mean for Janus Henderson in terms of our response to this and the changing sophistication and demand for ESG products?

Hagg: Thanks Will. We talk to clients often and obviously in those discussions we’re in problem solving mode, and one of the problems on the ESG front that’s been very evident is investors don’t have all the tools to build a sustainable portfolio. So there’s been generally a lack of fixed income choices, we’re very much focused on solving for that. There’s been generally a lack of diversifiers, so that’s another area when we think about a sustainable portfolio. That’s another area we’re trying to solve for and we will solve for.

So we really want to go to market and think about how we provide all the building blocks for a sustainable portfolio. I think that’s the goal. And if you take a step back and you just take decarbonization as a topic, you can get there three ways. You can change behavior, you can leverage a tech innovation, but you also have to invest in all the resources that go into driving the first two pieces of that puzzle. And so portfolios should reflect that.

A lot of people are tech heavy right now in their portfolios when they think about ESG, a lot of the ESG solutions are tech heavy. And so we’re again thinking about how do you create a diversified set of sustainable building blocks? And that’s really what we’re focused on.

Lucken: Thank you, Kelly. So any questions from the floor? We just had one coming up. Good question. So guys, what are your thoughts on green washing? And how do asset managers and clients, what do they need to look out for when it comes to green washing? Let’s take that from the investment side first, so Paul.

Lacoursiere: Yes, sure. I think this is an area that potentially suffers from a fair amount of confusion in terms of what exactly is an ESG investment strategy. I’ve had several conversations where clients might say, ah-ha, this can’t be an ESG portfolio because it holds an oil and gas company. But the confusion that’s happening in that situation is that it might be an ESG integrated strategy, where ESG is part of a holistic assessment of risk relative to valuation. And what the client really had in mind was a sustainable or an impact strategy where you would expect to see less holdings like that.

So from an investment perspective I think the key for avoiding green washing is alignments between what it says on the tin, what you’re telling clients you’re going to do and what you’re including in your prospectus documents, particularly in terms of clear commitments in terms of how that strategy will be run. And implementation. If you are claiming that environmental considerations feature quite heavily in how you vote your proxies, you need to be following through on that implementation, and you also need to make sure that the reporting that you have in place to support that disclosure is sufficient so that it’s easy for clients to understand what’s really happening in the portfolio and what’s really happening in the investment strategy.

Lucken: Thank you Paul. And Kelly, we do have one other question but quickly over to you. From a product delivery, and we’re in a competitive industry here, we want to deliver products that clients care about. But the topic of today is about our sustainability credentials. What do you think that means in terms of making sure we’re offering a credible and real product set?

Hagg: I think it starts with authenticity. Sort of touching on the green washing topic, our focus has been on authentic delivery on these types of solutions and so we haven’t rushed to move every product under the SFDR regime to light green. That has not been our focus. Our focus has been to pick our absolute best ESG investors, to lead with those, and to also have very honest discussions with our clients.

Just one more piece of the green washing topic. Another area you don’t see as much of is in client conversations there’s green washing. There’s an over promise of how diverse a company is, some firms will go a bit too far on those fronts. And so I think in the conversations with clients it’s another piece where you lead with your best ESG solutions and you really try to stay authentic. That’s really the goal.

Lucken: Thank you. And you mentioned SFDR here. We have another question which is, what are the differences in government pressures on ESG product screening. The EU seems to be further ahead than other regions, the U.S. for example.

Hagg: Yes. And, Will, I think the EU is very much ahead I think in defining the vernacular and creating prescriptive rules in how you speak about ESG. I think in the non-prescriptive world that the SEC usually drives in the U.S. I think there’s a lot of uncertainty. So again, it’s about authenticity. I think that will protect you from scrutiny of the SEC. But my guess is that the SEC, now that it’s very much awake to the ESG trend line, I think they’re going to come in and there’s going to be places where there’s been some over promising and there’s been some positioning that may not be the most authentic. And so I think the SEC will do that through examination, and that’s going to be a significant area of focus for them.

Lucken: Great. Well, Paul, I’d love to pass that question to you but I’m afraid we only have ten seconds left. So thank you to both of you for today’s session. I hope everybody found that useful.