How are ESG issues impacting the wealth management sector today? What has been achieved so far, what are the opportunities and threats, and what is still to be done?
Where to start?! In our view, the industry is still in the early days of applying ESG/sustainability concepts in a meaningful way. Wealth managers know that ESG is not a fad; it has become a permanent part of the investment landscape. But, they haven’t yet figured out how to holistically incorporate ESG into what they do for clients instead of viewing this as a stand-alone issue. ESG can lead to truly useful discussions and decisions that enhance client relationships. However, there are many challenges preventing wealth managers from incorporating ESG data into their processes and using ESG data to provide real value to their clients. What are these challenges? In a nutshell, most ESG data is:
- Inconsistent and contradictory. Ratings and rankings supplied by various ESG data vendors cover different things, emphasize different criteria, and often produce wildly divergent views of a given company’s ESG “behavior” (Is XYZ Co. “good” in terms of ESG? Bad? Both?)
- Expensive. The dominant ESG data providers have built lucrative businesses selling data to large institutional investors, and they are not eager to lower their fees. That model doesn’t work well for the wealth management industry.
- Complicated. The vocabulary involved in ESG data can be arcane, difficult to understand, and frankly rather useless unless one is an ESG expert. Most wealth management professionals do not have the time to develop that specialized expertise.
- Difficult to consume. ESG data is not available in a user-friendly way. Most wealth management professionals, who are not data scientists or programmers, rely on their investment platforms to supply the data and analytics they need. However, most platforms do not offer ESG data (it is too expensive – see above), and those that do typically provide it apart from other market data.
- Not tied to the investment process. There is little to no guidance on how to integrate ESG data into the overall wealth management process. When a client says, “I want to be in ESG funds or good ESG stocks,” wealth managers have to decide how to make that happen in the context of the clients’ risk profile, investment goals, etc. Furthermore, a wealth manager has to choose from the many funds with “ESG” or “Sustainable” in their name.
Figure 1: Supported ESG Frameworks
As a result, most wealth managers and advisors face a real dilemma. Their clients want to incorporate sustainability into their investing; however, without access to good, defensible, usable ESG data at an affordable price that can allow wealth managers to make objective decisions in the context of the client’s overall goals, the alternative is to rely on funds’ claims about “green” or sustainable investing. That’s not adding value.
What has been achieved thus far?
The level of interest and awareness of ESG issues across the investment landscape has exploded in the past few years, and that’s a “win” for all of us as investors and residents of this planet. Every statistic about fund flows into ESG/sustainable strategies speaks to that. Clients want their investments to reflect their values, and wealth managers are catching on to the fact that ESG issues are likely to affect stock prices in the intermediate- to long term. ESG-related risks can increase costs and employee turnover, alienate consumers, and damage reputations. Regulators around the world are emphasizing ESG issues, and violations can involve costly fines and repairs. Companies know they cannot ignore these trends and that heightened awareness is critical.
Opportunities
We see a tremendous opportunity to incorporate ESG into the wealth management process in a way that clients will perceive as truly valuable. Wealth managers currently have little to no guidance on how to integrate ESG scores, rankings, data into the overall wealth management practice or how to engage with their clients about ESG goals in the context of risk and return. Affordability is a key issue to be addressed, along with tools to assess the validity of marketing claims made by the hundreds of funds with “ESG” or “Sustainable” in their name. With the right tools, wealth managers could measure ESG exposures across clients’ investments – including funds and individual stocks – and evaluate and compare fund-level ESG exposures when selecting funds to meet clients’ needs, considering investment metrics, the client’s goals, and ESG simultaneously. Wealth managers are uniquely positioned to provide this holistic view. They know their clients’ positions across accounts, and clients trust them to make good choices on their behalf.
Threats
We see three significant threats. The first is viewing ESG as a stand-alone issue, a “box to check” after portfolios are constructed using other criteria. A wealth manager who does not simultaneously consider ESG along with other risk/return metrics could end up making costly mistakes. If a wealth manager recommends a fund that turns out to have significant exposures to companies that engage in environmentally damaging behaviors or get caught in corporate governance scandals, it will reflect poorly on the wealth manager. Another threat is the lack of transparency in what defines “green” or “sustainable” for mutual funds and ETFs. A fund’s ESG claims might be valid (whatever “valid” means) or mostly clever marketing. Lastly, time is a threat. It takes time to uncover ESG information about a fund’s holdings, and wealth managers do not have time to do that on their own – they need an easy way to independently monitor ESG developments in investments they recommend.
Still to be done
Turn the opportunities into realities and overcome the threats — that’s our focus!
Figure 2: OWL ESG Fund Ratings – Covering Thousands of Funds
What solution(s) does your company offer the market that addresses ESG issues, and how do they help wealth management firms manage their increasing obligations in this area?
Solutions OWL Analytics offers that address ESG issues and help wealth management firms to manage their increasing obligations in this area:
Before diving into the specific solutions OWL offers, it is extremely important to note that we make our data and solutions available through the investment platforms that wealth managers already use. There are no integration or ongoing data management issues for wealth managers to tackle – we do that for them through “partnerships” with reporting and analytics platform providers. Our approach is to make ESG data available to wealth managers as a turnkey solution embedded into their existing workflow, rather than selling them a dataset that they have to load up and review separately. In terms of specific offerings that we provide through those platforms, OWL has a choice of solutions to help wealth managers use ESG to deliver more value to their clients.
Consensus Scores – OWL Analytics takes a unique approach to address the inconsistencies and contradictions in the scores and rankings supplied by various ESG data vendors. These vendors’ ratings/rankings are not “wrong” – each one makes a sincere effort to analyze ESG issues – but they are subjective. They emphasize different things based on the metrics and weightings they use, so by choosing one vendor’s ratings, you choose their priorities and metrics over all others. OWL creates Consensus Scores that combine hundreds of ESG data inputs across a large number of sources that represent a wide range of perspectives. These Consensus Scores use a “wisdom of the crowd” approach, leveraging the world’s leading ESG data and research firms’ insights. Behind the scenes, OWL uses hundreds of metrics to capture the way the range of ESG data vendors create their ratings. From this, we construct a broad-based, unbiased, consensus view of the relevance of various E, S, and G metrics for each industry.
A wealth manager can use Consensus Scores to compare ESG profiles across funds – whether they are explicitly “green” or not! ¬– and can create tailored solutions by choosing funds that meet each client’s risk, diversification, style, and sustainable investing goals. Consensus Scores give wealth managers the information they need to provide a truly informed response to a client’s directive to invest in a “green” fund or report a specific company’s E, S, and G risks. Consensus Scores also help wealth managers to deepen relationships by educating clients about ESG.
Figure 3: OWL UN Global Compact Violations – ESG Controversies & Sentiment
Portfolio Wisdom from OWL – wealth managers can construct portfolio-level ESG analyses for each client, using Consensus Score ratings we construct for mutual funds and/or ETFs, as well as for individual stocks. With OWL’s data integrated into reporting and analytics providers’ platforms, wealth managers can meet clients’ demands to incorporate sustainability into portfolio decisions in concert with evaluating other critical investment metrics.
Principles-based Screening – OWL offers customizable screening tools that allow wealth managers to incorporate a client’s environmental, religious or ethics-based principles in the investment process with technology-driven screens that identify companies’ involvement in products/activities that conflict with investors’ priorities. We use artificial intelligence to detect whether a company’s involvement in a particular activity is material enough to “fail” a screen; without this, there could be many unintended consequences – for example, a “no tobacco products” screening criteria could prevent investments in grocery store chains that sell cigarettes along with tens of thousands of other items.
ESG Sentiment Scores – Using proprietary machine-learning tools, we scour news media and other publications from across the globe to monitor companies’ ESG activities, identify questionable practices, and determine whether a news item is favorable or negative. This can be an early-warning system that detects issues long before ESG data vendors update their ratings.
UN Global Compact Violations – Companies that are signatories to this UN Compact agree to certain ESG-based standards of behavior, and our specialized tool identifies any actions that conflict with a company’s responsibilities under the UN Global Compact, including an assessment of severity and outlook for a resolution. We cover all public companies in our database, not just those that have signed the UN Compact, as violations of these standards are a red flag for all investors.
OWL developed this suite of solutions in response to the evolving and expanding need for ESG data across various segments of the investment ecosystem. Many wealth managers may see ESG data and analytics as primarily useful to large, institutional asset managers who cover the high fees charged by the major vendors in this space by developing ESG strategies for which those managers charge based on AUM. Our goal is to democratize the use of ESG data, so that wealth managers can access it easily and use it to add value when responding to the growing interest in sustainable investing among their clients.
Figure 4: OWL ESG Consensus Score KPIs
This article was originally part of our Wealth Tech Views ESG Report. Click here to access the full report.
