Overcoming investment dislocation with ESG strategies 

  • by
    Bonnie Foley-Wong
    Sustainable Investment Leader, Mercer Canada

The rise of sustainability is transforming both business and the lens through which companies are viewed by their customers, employees – and investors. This shift in the investment landscape goes by many names, such as sustainable investment, and includes taking environment, social and governance (ESG) factors into consideration.

As sustainable investment and ESG factors have become more widely integrated into the economy and society, and indeed legislation and regulation, their purpose has become increasingly clear.

Endowments and foundations can overcome investment dislocations by increasingly incorporating ESG into their investment decision-making. In Mercer’s 2022 Global Not-for Profit Investment Survey, 83% of survey participants said they are incorporating ESG into their investment decisions or plan to begin doing so in the next 12 months. For 67% of respondents, aligning their portfolios with their organizations’ missions and values is the driving factor behind incorporating ESG while 47% said it is to reflect stakeholder views.1

Sustainable investment and ESG might have centuries-old roots in ethical investing, but this continues to evolve. There is increasing recognition that our current measures of risk do not capture all risks, and for some time investors started to pay attention to other factors. ESG is an approach to describing those factors and risks. Sustainable investment became a way of capturing the returns and gains from investing in innovation, opportunities, and businesses in transition that recognize those systemic risks as well.

Many endowments and foundations, significant stewards of assets, have been early adopters of sustainable investment and ESG integration, a relationship that may seem obvious given these not-for-profits’ focus on the betterment of humanity, society, or communities, in one form or another.

However, Mercer’s 2022 Global Not-for Profit Investment Survey found these organizations face challenges in aligning their mission, values, and their investment strategies, to sustainability principles and ESG factors.1

So, where does this dislocation stem from?

Endowments and foundations operate with a diverse set of stakeholders to whom they are responsible and accountable. One example is beneficiaries or recipients of funding for services such as education, research, social and charitable programs or grants. Funders and donors are often also interested in how the not-for-profits are using and investing the funds. Investment returns are an important source of funding and cashflow for the sustainability of a not-for-profit organization’s operations and its ability to serve its beneficiaries.

Over the last 15 years, the conversation has increasingly been about the contrast between a not-for-profit’s mission and the activities enabled through the organization’s investments.

  1. ESG over returns

    A foundation’s investments in carbon-intensive industries or businesses with questionable supply chain practices may generate much-needed returns and funding to deliver grants and programs to their partners and beneficiaries but may be at direct odds with its mission. By applying a robust framework for integrating ESG factors and sustainability principles throughout its investment approach, and omitting certain sectors from investment, there may be a feeling that as an organization they may be prioritizing ESG over managing risk and generating investment returns to deliver on their mission.

    Mercer’s 2022 Global Not-for-Profit Investment Survey uncovered a systemic shift towards aligning environmental and social issues with asset allocations – a move that can be beneficial for the organisation’s reputation, stakeholder’s expectations, and increasingly, diversification of returns.

  2. Current NFPs face economic challenges
    In addition, the current economic climate for many not-for-profits has become increasingly challenging, with the global pandemic, rates of inflation not seen in decades, and pressure to increase disbursement rates each playing a factor. As a result, some not-for-profits are potentially in survival mode, and the worry of sacrificing investment returns or taking on more risk to invest in opportunities that reflect improved diversity, equity, and inclusion or represent lower carbon intensity or are needed for the climate and energy transition may weigh heavily on the minds of not-for-profit leaders and decision-makers.
  3. Mix of views on investment committees
    Another complexity faced by not-for-profits is potentially the differences of opinions on investment committees. We find that many of our endowment and foundation clients have a mix of leaders with deep expertise in the investment industry and in the field of change in which the not-for-profit operates on their investment committees. This diversity is an asset, not a barrier. As our clients search for investment opportunities and solutions to the world’s most difficult challenges – and that includes how solutions are financed with investment capital or which businesses that are slow to transform get capital allocated away from them – we believe they benefit from the coming together of people with different experiences, skills, and perspectives.

Solutions to overcome investment dislocation

Not-for-profits that are keen to integrate sustainability or ESG factors into their investment approach may be hesitant to do so for fear of harming their missions or programs. They could also be unsure where to begin, are getting additional information, training, or education for Boards, investment committees, and management teams. However, there a range of solutions available for not-for-profits by partnering with an outsourced or delegated chief investment officer.
  1. Establish investment beliefs
    In light of the changing landscape of sustainable investment and ESG, they may find that there are different perspectives on the principles or beliefs that guide the not-for-profit’s investments. We have assisted not-for-profits through surveying key decision-makers on the sustainable investment beliefs with respect to the assets they steward and helped them update their responsible investment policies and establish a strong foundation for good governance and stewardship.
  2. Prioritise stewardship

    For endowments and foundations that have already been stewarding their investments with a sustainable or responsible approach, it couldn’t be a better time to lead and model what sustainable investment could look like. No matter their size, endowments and foundations can establish sustainable investment policies. For some not-for-profits, particularly smaller organizations, implementation might take the form of outsourcing or delegating some or all of the investment process to a partner that aligns with those policies. Better and more consistent data and disclosure from companies means improved monitoring and the ability to set goals.

    Stewardship strategies and collaborative engagement groups means opportunities to influence change as an asset owner. Investment innovation and new opportunities means the ability to balance risk, returns, and impact while investing in focused sustainability and impact themes is increasingly possible.

  3. Take it one step at a time

    Not-for-profits can and should take one step forward on their sustainable investment journey, no matter at what stage they are. It can help to focus on specific aspects at a time as opposed to seeking wholesale alignment or change on day one.

    This may allow the process to remain both manageable and cost-effective, and in doing so, help uncover genuine cohesion and alignment between their mission and sustainable goals. Mercer’s 2022 Not-for Profit survey found that more than half see climate change as the second-biggest investment opportunity over the next five years, presenting the opportunity for leaders to invoke meaningful change.

    Whether its small steps like education on ESG investing, or larger-scale changes like the introduction of net zero policies and revisiting asset allocations, there is room for not-for-profits to embrace change towards a more sustainable future while proliferating their core beliefs and values.

    1Mercer 2022 Global Not-for-Profit Investment Survey

About the author(s)
Bonnie Foley-Wong
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