The KiwiSaver cluster-bomb incident should serve as a warning to other jurisdictions, according to global environmental, social and governance (ESG) research firm, Sustainalytics.
In a paper published last week, Sustainalytics says the KiwiSaver cluster-bomb debate – that saw a range of providers ultimately change some underlying index funds – “shows that investors offering passive investment products can face questions about their exposure to controversial weapons companies”.
“This development is notable, as most national debates on controversial weapons investments have centred on investors’ direct equity holdings,” the Sustainalytics paper says.
The report – authored by analysts Martin Vezér, Doug Morrow and Andres van der Linden – says while some countries exempt index funds from complying with controversial weapons investment exclusions, the potential exposure to the sector via passive vehicles in many other jurisdictions could lead to “unexpected public and regulatory scrutiny”.
“Given the current market shift towards passive management – global assets under management (AUM) in passive strategies grew 230% from 2007-2016 compared to just 54% for those with active strategies – the scope for such questions may expand,” the Sustainlytics paper says.
The report says nuclear weapons manufacturers currently appear on almost 1,000 stock indexes globally with just 100 equity benchmarks including anti-personnel mine firms.
“The prevalence of nuclear weapons companies is partly due to the relatively large number (30) of publicly traded nuclear weapons companies and the legality of nuclear weapons production in nuclear states,” Sustainalytics says.
Controversial weapons constitute between 0.5-2 per cent of global stock market benchmarks but many passive investors “may be unaware that these indices offer any exposure to controversial weapons”, the paper says.
“Whether dominant market benchmarks should incorporate ESG criteria is certainly not a new question, but the KiwiSaver case may raise awareness about some of the limitations of a pure market cap-based approach,” Sustainalytics says. “Some large investors have agued that mainstream benchmarks should incorporate material ESG factors. We expect this debate to advance in the years ahead as ESG integration proliferates.”