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ESG explored: how to find sustainable funds and justify recommendations



VitalityInvest recently spoke with Danny Luggah from Defaqto to learn about the main considerations for financial advisors to take into account when it comes to performing due diligence around sustainable investments.

To help intermediaries navigate this growing field[1], the ESG series explored of VitalityInvest takes a look at various aspects of the financial advisory process around Environmental, Social and Governance (ESG) funds – from fact finding and regulatory adequacy.

Considerations of finding sustainable investments and how financial advisers should exercise due diligence to better understand client needs and justify their recommendations are crucial in this regard.

To better understand this, we caught up with investment consultant Danny Luggah, who was instrumental in designing Defaqto’s in-depth ESG reviews for financial advisors. You can read the interview below or watch the full video as part of the CPD series available on the Vitality Academy and YouTube Vitality Advisor.

What factors should financial advisors take into account when researching ESG funds?

“In the world of ESG there are many terms used – such as ‘green’, ‘ethics’ and ‘sustainability’ – and they all mean different things depending on who you ask. At Defaqto, we globally follow the responsible investment framework of the Investment Association (IA)[2]. This is because AI was one of the first organizations to try to standardize some of these terms.

“When it comes to ESG investing, there are four levels that are separate parts of a pyramid. At the base is ESG integration, where they are considered part of traditional financial analysis. The next level is exclusions in funds for certain companies or sectors of the investment universe. After that there are funds with a focus on sustainability, where the investment is made in assets with specific sustainability objectives or themes. Finally, at the top of the pyramid is impact investing, which intends to have a positive and measurable environmental or social impact.

“With that in mind, when we talk about focus on sustainability we are talking about actively trying to “do good” as opposed to “do less harm” by owning assets that contribute to lasting positive results. The main factor here for advisors is understanding exactly what their client is trying to accomplish. Some may seek broad exposure to sustainability themes, while others may have very specific goals in mind – so understanding customer preferences is crucial. Another important aspect of this is to educate customers so that they understand the types of sustainability that can be achieved.

As sustainability becomes more of a priority for large corporations and governments around the world, how are financial advisors staying on top of this trend in due diligence?

“As the demand for ESG continues to grow, we have seen many more options for advisors to choose from. I think that therefore requires a different kind of due diligence, because you can’t rely on the quantitative side as much as with traditional funds. For example, there is a lot of subjectivity around sustainability. With fossil fuels, we can all agree that they are bad for the environment, but fund managers’ approach to them often differs. Some choose to avoid exposure to fossil fuel companies altogether, while others argue that by avoiding investing in these companies you cannot help influence change, so they could invest in them. in order to be able to participate in company meetings and vote against management if necessary. Due to this wide range of approaches, I think it is very difficult to quantitatively assess ESG funds. This is one of the reasons we have chosen to keep our ESG ratings as qualitative ratings. With this in mind, we anticipate that future regulation will help improve consistency in sustainable investing for advisers. “

What do advisors need to do to justify their suitability recommendations to clients?

“At Defaqto, we have two interconnected forms of communicating ESG research to clients. We have our search tool To hire which is used by thousands of financial advisers – this allows them to apply various filters on ESG funds. We also produce ESG reviews, which provide qualitative assessments of ESG-focused funds. For example, we look at the fund’s ESG policy – whether it has defined ESG themes or specific exclusions – then we look at the underlying investments and how they might match or conflict. When it comes to justifying this choice in the adequacy report, it is very important that advisors understand exactly what their client is trying to achieve in terms of ESG and align their recommendations accordingly.

Earlier this year, VitalityInvest launched its EnVIRO range of funds to enable financial advisors to seamlessly integrate ESG into an existing advisory process, while providing clients with an easy way to invest in a more sustainable future. .

A version of this article originally appeared on Vitality Insights Hub

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[1] Total Global ESG Investments Reach $ 1,000 Billion (£ 705 Billion), European Sustainable Funds Landscape: 2020 in Review, Morningstar, February 2021

[2] Responsible AI Investment Framework, November 2019