What does the sustainable investor buy: a better world? Or good sleep?
Sustainable finance is “hot” – but “doing it right” turns out to be more complex in practice than it seems. In this column, DSI invites professionals to share their views on the tensions, dilemmas and unwritten rules in sustainable finance. Every month we publish a new guest column, inspired by the dialogue document Between the Rules. What do you notice? What is chafing in practice? And what is needed for real sustainability in the sector?
By Harald Walkate
Sustainable investing has taken off in recent years. Good news, you might think: apparently savers, investors and pension fund participants want to contribute to a better world.
But at the same time the question arises, what does this achieve for the investor? Many will expect the money from sustainable funds to flow directly to companies doing good things for people and planet, and their capital to enable these companies to do even more good. “Additionality” is what this is called in the jargon: the money makes things happen that wouldn’t happen otherwise. There is a causal relationship between investment and a better world.
The promise of SRI: beautiful image, tricky reality
The reality is more unruly, however, for several reasons: (1) most sustainable funds invest primarily in publicly traded companies, with the money from the fund flowing not to the companies, but to the sellers of the shares. (2) Many solutions to sustainability problems cannot (yet) be applied on a commercial basis, so publicly traded companies – whose primary goal is profit anyway – cannot provide these solutions. (3) Many sustainability problems are “systemic” in nature; in other words, the premise that sustainability is a sum of citizens and businesses all doing a little more sustainable is incorrect – “systemic” incentives are needed to discourage certain behavior and encourage other behavior. Who can create these systemic incentives? Right, the government.
So is the sustainable fund the new usury policy – making promises that cannot be kept, at great cost? Not necessarily. Because this depends entirely on the expectations of the consumer who puts his or her money into a sustainable fund.
What really drives the sustainable investor?
Roughly speaking, there can be three motivations:
(a) Good night’s sleep: “I don’t want to invest in ‘wrong’ companies: tobacco, weapons, fossil – I also understand that this won’t reduce cigarettes smoked or wars fought, and my returns may be a little lower, but I don’t want to make money from these activities.”
(b) Return: “I think I can generate better returns by investing in companies that score well on sustainability.”
(c) Additionality: “I invest because my money enables sustainability solutions that would not otherwise be possible – my money contributes to a better world.”
Can these desires be honored? A very short answer to this question based on scientific research is: (a) – very good; (b) – no; (c) – to a very limited extent.
And what do we actually know about what motivations are particularly at play among consumers? Very little; although this is an important question, it has actually hardly been studied scientifically, nor is it a topic that financial institutions regularly discuss with customers.
And this is why DSI’s “Between the Lines” initiative is so important and why the title of the discussion paper is so well chosen: to know whether the consumer is getting what they are buying, we must first establish what the consumer thinks they are buying – is it (a), (b) or is it (c)? In other words, the financial institution must read between the lines; it is not enough to establish that the consumer wants to “invest sustainably” – it must establish what the consumer thinks he or she is getting by doing so.
And what makes the title even better is that there are already all sorts of rules around sustainability that financial institutions must comply with; for example, the European Sustainable Finance Disclosure Regulation (SFDR) by which funds can be classified at the sustainability level. Financial institutions are literally surrounded by rules.
Why clear expectations are crucial for real impact
But let these rules say precisely nothing about the extent to which funds do or do not meet motivations (a), (b) or (c). Financial institutions should know this, and thus all the more reason to examine with extra care what consumers think they are buying: a higher return? A good night’s sleep? Or … a better world?
Good that DSI is raising this “Between the Rules” discussion; after all, if put to the right use, our savings can make a big contribution to solving societal problems, but that requires an honest conversation about what exactly motivates investors, what are the pros and cons of specific investments, and when money can really make a difference.
