Data quality, regulatory confusion and limited asset class choice rank as the most important stumbling blocks for environmental, social and governance (ESG) investors, a new study has confirmed.
Released in July, the Index Industry Association (IIA) survey of 300 fund managers in Europe and the US found about 90 per cent of respondents rated various data issues, inconsistent regulations and the heavy-weighting to equities as the “main barriers to progress” in ESG investing.
According to the IIA report, the responsible investment trend could be slowed by the “lack of ESG data standardization across markets and sectors (89%), insufficient corporate disclosure of ESG data (89%), lack of methodological transparency (88%), lack of regulatory certainty (88%), and the need for acceptance of ESG in more asset classes such as fixed-income (88%)”.
Over half of respondents also found it difficult staying on track with evolving community expectations around ESG.
While data quality – both from underlying corporates and the estimated 100 plus sources of third-party ESG research – is a cause of concern, the study highlights a deeper problem for investors.
“More fundamentally, there is no common agreement on how ESG performance should be defined and measured,” the IIA report says. “In our survey, 61% of respondents pointed to a lack of agreed ratings and methods among providers as a major or moderate challenge to ESG implementation for fund and asset managers.”
The study also calls out a “regulatory disconnect” with over two-thirds of those surveyed noting difficulties keeping up with the new rules: a similar proportion of respondents also note regulators don’t “pay enough attention” to fund managers on ESG.
“Looking ahead, asset-management companies see further ESG regulation on the horizon; 78% say they will need to prepare for further ESG regulation over the next few years, and a similar proportion (74%) say they will need to invest more in their ESG capabilities,” the IIA paper says. “Overall, however, the industry favors a market-driven approach to addressing ESG concerns, with 73% agreeing that the market is often better at driving forward ESG than regulators.”
Despite the challenges, close to 90 per cent of those surveyed expect grow their ESG investing services over the next three years led by both client demand and internal strategic motives.
“Investors’ growing focus on ESG factors is driven by a strong alignment between financial and societal goals—put simply, asset managers see it as good for their clients and good for society,” the IIA report says. “According to our survey, the main factors driving ESG investment are client demand (54%), desire for increased return (44%), portfolio diversification (42%), investment policy (40%), concern for ESG factors (40%), and reputation or regulatory risk (36%).”
Furthermore, the survey found just over 70 per cent of respondents saw indexes as vehicles to both codify “consistent ESG standards and best practices” and have a lead role in industry debate on the subject.
“However, they did not see the role of indexes extending to include the development of ESG standards themselves, and 60% agreed that more complicated questions should be left to the market and to regulators to address,” the IIA report says.
About 40 per cent of managers in the survey use indexes for benchmarking and/or building ESG investment products.
Headed by Rick Redding, the IIA is the peak global body for the index industry, whose members collectively oversee almost 3.3 million indices at the latest count. About 90 per cent of financial indices centre around equities, the IIA study says.