Active versus Passive Investing
But is the right kind of investment fund one that proactively drives momentum in the markets or rather, one that holds back and instead responds to market trends? Is there a responsibility on major Asset Owners to behave in a certain way or should ROI always be the driver? The balance is changing in a number of ways; As the number and complexity of exchange traded funds grow, passive investors may make almost as many decisions as active investors used to face. Good to read this article by Oonagh McQuillan at the weekend identifying the ever-changing reality.
The merits of a passive approach to sustainable ESG investing
Oonagh McQuillan July/August 2018
Large Asset Owners like Sovereign wealth funds, are often regarded as some of the world’s most sophisticated institutional investors and are increasingly abandoning traditional active management and moving towards equities. Many large funds have reduced the number and size of their actively managed portfolios.
Asset Funds based in the Middle East often use in house active management teams whereas in emerging markets such as Africa, Funds are less mature and have moved away from active management. The transparency of passive products and their value for money are the main draw for Large Asset Owners.
Factor based strategies or smart beta are securing more business from Funds as they try to exploit long term mispricing of assets. Some argue that active and passive investing are actually becoming more alike. As the number and complexity of exchange traded funds grow, passive investors may make almost as many decisions as active investors used to face.
There is evidence to suggest that responsible business practices have a direct link to financial performance. Investors are increasingly accessing data on sustainable and ethical business practices to minimise long term financial risks associated with Environmental Social Governance (ESG). According to the Global Sustainable Investment Alliance in 2017 responsible assets under management accounted for a quarter of the world’s total.
The UK pension regulator has warned savers they may face long term financial risks if trustees fail to account for climate change, responsible business practices and corporate governance when making investments. Investors have expressed concern that responsible investment could limit performance even though responsible funds are less likely to experience unforeseen losses.
An increasing number of investors believe in the merits of a passive approach to sustainability. Improved ESG data on companies and technological advancement has made new approaches to passive sustainable investing possible. However, the rapid rise in passive investing has raised more questions about the impact on capital allocation and corporate governance. Investors need to make sure that asset management firms on the passive side monitor and mitigate risk effectively.
Institutional Investors are increasingly aware of the positive impact that ESG integration and active ownership practices have on investment performance. Regulators have contributed further with the adoption of investment stewardship codes in several countries.
Given the importance of responsible investing and growing investor interest in ESG considerations stewardship practices may become more scrutinised as a result. Asset managers with a significant volume of passive business won’t be immune from that scrutiny. As more Large Asset Owners move towards passive ESG investing this is a force for good for the industry by creating greater transparency in the global investor market place.