Pension funds are opening their eyes and wallet to sustainable investments, but clear definition of what makes an investment sustainable lacks. “It is still very much talk,” says founder of a new 100% sustainable pension plan, Matter.

This month Matter, a Danish fintech, will
launch a new 100% sustainable pension plan. Matter have teamed up with Skandia – one of Scandinavia’s largest pension and insurance companies – and it is one of the first pension plans in the world that promises its customers that every dollar invested is invested sustainably. This means that investments in fossil fuels, weapons and tobacco are off the table and investments in cleantech, health and more, will take centre stage.

A defining feature of the Matter pension plan is transparency; customers can not only view their expected financial returns, but they can also see the direct positive environmental impacts of their investments.

Just a few years ago this kind of pension fund would not have been possible.

“It is not until recently, that it has become possible to create a pension fund that is based on 100% sustainable investments. It is only just now that the pool of sustainable investment funds has grown big enough for us to be able to ensure that we only invest in sustainable assets, while enabling a sufficient diversification” says Emil Stigsgaard Fuglsang, co-founder and COO of Matter.

The launch of Matter should be viewed as part of a growing sustainability trend among asset managers and investors. Matter is certainly a frontrunner in race for sustainable finance, but their business model and the fact that they are able to launch now, serve as a great indicator of what is to be expected in terms of sustainable investments and what is currently disrupting the entire pension fund sector – a sector that currently owns around 50% of the capital market.

A growing trend

Across the world pension funds are increasingly integrating sustainability criteria into their investment strategies and decision-making processes. Investor interest in so-called ESG funds – investments screening for environmental, social and governance issues – has driven a 37% annual increase in assets to US$ 445 billion in 2017, according to a 2018 analysis conducted by Bloomberg Intelligence. Further, if you look at the number of signatories to the Principles for Responsible Investment (PRI), the world’s leading advocate for responsible investing, you see the same trend; it has grown from just 1000 in 2013 to around 2000 today. See textbox with the six principles.

Six Principles for Sustainable Investing (PRI)
Principle 1: We will incorporate ESG issues into investment analysis and decision-making processes.
Principle 2: We will be active owners and incorporate ESG issues into our ownership policies and practices.
Principle 3: We will seek appropriate disclosure on ESG issues by the entities in which we invest.
Principle 4: We will promote acceptance and implementation of the Principles within the investment industry.
Principle 5: We will work together to enhance our effectiveness in implementing the Principles.
Principle 6: We will each report on our activities and progress towards implementing the Principles.

The sustainability trend is particularly strong in Europe, where several of the biggest European pension funds have moved forward in terms of ESG investments. One example is Storebrand, Norway’s biggest private pension fund, that has launched a US$ 1.3 billion fossil-fuel-free bond programme. Another is the Danish public pension fund ATP, who from October 2017 to July 2018 invested US$ 1.4 billion in green bonds. About half of the managed assets in Europe are currently integrating ESG factors into their lending and investment criteria.

The trend is not only about doing good. It is also about doing good business. Several studies have shown that sustainable investments often have the potential to deliver superior returns over the long term.

But sustainable investments from pension funds are not only a European phenomenon. The trend is global. For instance, Canada, the US and Japan have witnessed a rapid growth in interest.

Sustainable business is good business

The trend is not only about doing good. It is also about doing good business. Several studies have shown that sustainable investments often have the potential to deliver superior returns over the long term. One example is a new white paper “ESG’s Evolving Performance: First, Do No Harm” from Axioma, a US-based provider of enterprise risk management advisory. The central conclusion from this paper is telling: “Our analysis indicates that, in general, increasing exposure to ESG rarely underperforms the market, and often outperforms the market, especially during the last few years.”

These results are widely supported in other studies, among others by Morgan Stanley and Harvard Business Review.

“You no longer have to be an idealist to put your money in sustainable investments – the last years have proven that sustainable investments do not mean poorer economic returns,” says Emil Fuglsang.

Growing political pressure is also contributing to the impetus for more sustainable investment options. In 2016, the PRI identified almost 300 regulations in the world’s largest 50 economies which supported ESG investing, and most of these were created since 2013.

In the UK, the Department for Work and Pensions has opened a unit that will assist pension fund trustees in integrating ESG factors, and their effect on the long term risk of assets, into their decision-making processes.

Good news, but…

There is no doubt that the growing interest in ESG investments is good news for our planet. However there is still long way to go before sustainable finance becomes the new normal for pension funds. Despite placing a greater emphasis on sustainable and responsible investments with one hand, the vast majority of pensions funds are continuing to invest in the fossil fuel industry, the weapons industry and other black sectors – with the other hand.

The taxonomy is too weak and the criterias for when an investment is sustainable is not ambitious enough. It is still very much up to each pension fund to make its own definition.

It is still very much talk, and less action. If you look into portfolios of some of the pension funds that are most focused and speaking most about sustainability, you will see that they are still investing in a line of unsustainable industries and projects,” says Emil Fuglsang.

According to him one of the biggest challenges is confusion over ESG taxonomy – this means that there is a lack of clarity on investments that can be classified as sustainable investments.

“ESG as a framework is not enough – because the taxonomy is too weak and the criterias for when an investment is sustainable is not ambitious enough. It is still very much up to each pension fund to make its own definition. For instance you can easily find oil companies that are screened as ESG investments,” says the Matter COO. He argues that this is also why Matter is working to form their own definition of sustainable investments based on a selection of available UN frameworks and best-in-class practices from a series of leading responsible investors around the world.

As a response to this “taxonomy challenge”, the EU is proposing to introduce a definitive taxonomy in 2019 according to “The European Commission Action plan: Financing Sustainable growth” – the goal is to develop a taxonomy that will serve as a “yardstick for measuring capital flows”.

According to Emil Fuglsang, another great challenge is that sustainable investments are still nice-to, and not need-to investments for pension funds.

“Today responsibility and sustainability is not something that determines your future as a pension fund – it is something that is nice to have in your portfolio and communicate about, but it is not yet a dealbreaker for most customers”.

Thus business as usual in the pension funds is that they prioritise return-on-investment over sustainability. As a clear consequence of this, sustainability is also still below return of investment in the asset hierarchy, meaning that the sustainable investment departments do not often have portfolio responsibility, but serves more as advisors to the asset managers.

At Matter this has been turned upside down. The way their investment plan works is that they start out by screening for sustainability, and afterwards the asset managers at Skandia put together an investment portfolio based on expected financial returns.

“We screen for sustainability first – and exclude all the objects that have invested in fossil fuels, weapons and tobacco. We also take out those who are not behaving socially responsible. And then we at look at investment objects that help drive the SDGs and the sustainable transition,” the Matter COO explains.