Guest speaker: Nikita Singhal, Co-Head of Sustainable Investment & ESG at Lazard Asset Management.
The Evolving World of ESG: Why Should Investors Care?
Episode 1 | Duration: 23 minutes
In this episode, we explore why ESG investing becomes an integral part of successful financial strategies and how it leads to greater sustainability of businesses and society overall. By looking at the approach developed by Lazard Asset Management, we discover the way financial institutions approach responsible investing and incorporate it into their business processes.
Keesa Schreane: Welcome to the Refinitiv Sustainability Perspectives podcast, where we share examples of leadership and innovation. Small entrepreneurial businesses, large megacorporations and all types of enterprises in between are seeing a global shift in perspectives around the role of business and society, from ESG [environmental, social, governance] investing to sustainable finance to social impact in our communities. We're on a journey to leverage data and intelligence to make the best business decisions possible.
As we celebrate Climate Week, we are so thrilled to have Nikita Singhal with us. Nikita is co- head of Sustainable Investment and ESG at Lazard Asset Management. She's worked with IFC World Bank Group, Clear Bridge Investments and started her career in Goldman Sachs. And she also has her MBA from Harvard. Nikita, thank you so much for joining us. So let's just start right off. Why should we care about sustainable investing? Let's talk about that, too, in the context of Climate Week. Why should we care about sustainable investing right now?
Nikita Singhal: Well, if I speak from the perspective of an investor, I think it's a very interesting time today in the world and I see it in two facets. One is for someone like Lazard Asset Management -- we manage over $200 billion of money. And that money when you think about it, whose money is it really? We are fiduciaries of people who are managing their pensions through us. These are firefighters and police officers. We are managing the money of endowments, of schools and foundations. We are managing the money of families who are looking to preserve intergenerational wealth. And so our responsibility is to really be good long term stewards of that capital.
I think it's also to understand that these people, these individuals, their needs are changing and evolving. As society evolves, it is our responsibility as investors to take that into consideration. So that's one very important facet.
The second equally exciting facet is the recognition that there are several global structural changes that we're seeing in the marketplace today, whether it's climate change, rising inequality, several technological disruptions in the world, increasing use of social media that is making issues that were once considered off market externalities as financial issues. These are market issues.
If as investors, we are not thinking about the dangers of climate change, whether it's the physical risks of climate change or the potential transition risks arising from a changing world. These are risks that we might not be pricing in sufficiently and we're not doing our job as investors. So it's really an evolution within investing while taking into consideration our long term fiduciary responsibility.
Schreane: While we're on the topic of the evolution of investing and just things that we consider now that maybe we wouldn't consider 10 years ago, 15 years ago, I want to bring up a May 2019 report for the Center for International Environmental Law. And they found that climate impacts of plastics do not stop when plastic is discarded, but a large part of its climate impacts occur only after its useful life ends. So that might not be surprising for some of us, but it goes on to say that if plastic production and use grows as currently planned, that by 2030, the emissions could reach 1.34 gigatons per year. And just for context, that's equivalent to the emissions released by more than two hundred and ninety five new 500 megawatt coal fired power power plants. So with that being said, I'd like to explore a use case in which Lazard came across a potential company and their use of plastics was being questioned. You all closely examined the environmental impact of a company as part of your investment process. You met with the CEO to understand the company's environmental impact, where they are with research and development and as well as their sustainability plans. And I'd like you to walk us through just what your perspectives are when you're working with the company, when you're understanding where they are and where they are going in terms of their sustainability and what makes you decide to invest or not invest.
Singhal: I think this goes to the heart of just doing good research. I believe that very often sustainability can be relegated to the tree huggers and only investing in a certain kind of company like a wind farm. But there is no reason that we should be evaluating the risks and opportunities that are linked to sustainability across all of our companies. And so that is our strategy at Lazard Asset Management.
So we think about it from a materiality context, which is really going industry by industry sector and at a subsector level and even at a company idiosyncratic level to think about what are the most material issues for this company. Because if those issues are likely to impact the long term financial success of the company, it is also more likely to actually get done.
So when you think about it from both perspectives, in terms of being able to actually drive significant impact in the world, there is often this belief that impact happens through the nonprofit world, and that is certainly the case. There will always be market failures where there is need for nonprofit capital to activate markets, to capitalize opportunities that don't have access to capital.
But the for-profit world has, I think, for a large part of our history, been ignored and for-profits are at the very essence, enterprises that are driving significant change in the world, good and bad. And so it is our responsibility to examine that change. When we bring into factor the materiality of environmental and social issues, we can actually accelerate and drive that change, so the conversations that when you are a large asset manager, you tend to be a top page one, page two shareholder of most of the companies.
It's not something to brag about, but I mean that in a way that we have access to senior management where you are having a conversation with the CEO or CFO. It's not standing outside their office with banners, which has its own purpose. But within the confines of a conference room, within the confines of a discussion about balance sheet and income statement projections, you're able to talk to a CEO or a CFO about the need for increasing diversity or the need for changing their production and manufacturing to to use less plastic.
Coming back to your example. Because that is a changing consumer need and it is likely to impact a whole host of things depending on the company. But actually breaking it down to say how could it impact anything from as big an issue as brand perception to specific organic growth rate projections, to potential margin assumptions in one's model. And to be able to go down to that granular level and have that discussion with chief executives is where you can also drive significant impact. So I think for us, that is why we always come back to materiality and we come back to our analysts doing the work as opposed to having a separate sustainability team.
Schreane: OK. So we talk about materiality. We talk about analysts doing their work. And we've seen loads of examples where the companies, for whatever reason, just can't seem to get it right in terms of sustainability. They suffer reputational damage. There is the loss of trust in terms of the investors. How can a company win back the trust of the investors after suffering from a reputational issue?
Singhal: Companies go through these issues all the time and sometimes they are event driven, sometimes they are actually symptoms of something more systemic that needs to be fixed and that might require a management change or it might require a change in strategy or it might require incremental things.
But I think what is powerful is when investors can engage with company management as owners and engage with them on those issues with sufficient proof that these are material issues. So when you see companies that have a major controversy hit them, if you have an individual who doesn't understand the company, who really feels for the issue and there are plenty of us who do but doesn't have the contextual understanding of how material or immaterial that issue might be. I think that's what makes the difference. So our analysts are experts in the sectors that they cover. And so an analyst who is working in the healthcare space, for example, is acutely aware of the risks as well as the opportunities that healthcare companies can have by addressing things like drug pricing and access to medicine and and and tackling things like product liability issues head-on.
There are multiple examples of companies that have done this very well, because all companies that are going to have a research and development arm and try and develop innovative medicines are going to have these issues or there are always going to be certain product concerns. But there are companies that deal with it the right way and there are companies that don't. And those create opportunities for us as investors. So it's the health care analyst that's best placed to be able to do that work and to ask those questions to their executive team. And similarly on the tech side, our technology analyst is not going to be thinking about the issues that I just mentioned because they're not relevant to his space.
So rather than depending on some sort of external ESG rating or more generic ESG reports, our tech analyst understands that technology companies are really grappling with some very serious issues when it comes to understanding that intersection between business, industry and society and the society being a big part. And so thinking about something like anti-competitive behavior or data privacy and data security concerns or energy management of data centers, something that I think is largely unappreciated in the tech sector today, even by many fundamental analysts.
All of this comes back to taking ESG and sustainability very seriously as a part of the core fundamental research process.
Schreane: You mentioned a lot about working with CEOs and how senior management can really have a role in bringing things back in terms of really helping their own ESG efforts and really helping the investors and the analysts to see the benefit and how they're purpose driven. We talked a little bit about the Business Roundtable and just how we're getting to a point where the old Milton Friedman way of seeing things, you know, “businesses in business to make money for shareholders only,” evolve into the business has a more social function, that businesses are here for the betterment of society. And I'm wondering in terms of various groups that Lazard Asset Management is a part of or that you just see growing in terms of really pushing that message around ESG social impact sustainability. Could you let us know what you're doing, what your firm's doing in terms of involvement with those types of groups to really push that message in that agenda?
Singhal: What was was very exciting to see the comments and discussions after the Business Roundtable. And I think there is growing recognition that or a question, what is the ultimate purpose of a corporation? And I think there is no question that the shareholders will remain an important integral part of that.
I think there is also the recognition that perhaps this short termism that exists in capital markets today is driving us to focus on a few sets of issues that don't necessarily favor long term financial success, when in reality, going back to the example of who our end investors are, pension funds have 75 very long-dated liabilities that they're looking to match with investments.
And so generally end clients have very long-term time horizons. But the value chain in investing somehow has created this short termism for us to be in a space today where most, you know, long only investors have a one or two year time horizon. Their portfolio turns over and it's not to their fault because they are held to those performance standards, which then translates to CEOs of corporations expected to make their quarterly numbers. I don't think CEOs or investors or many others along this whole investing value chain don't care about these issues. But because the time horizon is so forced, those issues don't become material.
So the minute you lengthen your time horizon, automatically taking into consideration the welfare of your employees, of the community you're in, of the environment. That becomes an important stakeholder in your own long term success. Therefore, one of the efforts we have is to have more of those discussions about long termism. And there is an organization called CECP that Lazard Asset Management is on the advisory board for their strategic investor initiative. It’s Chief Executives for Corporate Purpose and that organization is doing some tremendous research in an effort to just heighten the discussion around lengthening time horizon.
Schreane: In terms of investors and what they should really be looking for in this day and age, I know that we have more focus on ESG rankings than ever before. How would an investor look at a situation, a scenario to understand whether a company might be a good company or whether an approach might be a good approach? What advice would you give them?
Singhal: That's a great question because I think just the way you frame the question is an important one, because most people tend to ask, is this a good company? And as an individual personally, for me, that's like saying, is this a good person? Companies are collections of individuals. And so in the same analogy, I think it's very hard to see a company as good or bad. Companies are complex organisms of sorts and they have multiple things that they're doing well, or they're doing badly and they change over time very often.
Companies that are hit with crises and ESG crises, as a good example, can emerge as being sustainability leaders for the next decade. And so I think rather than having a fixed point in time opinion about a company or a fixed opinion about a company, it's dynamic analysis and examination of the most material issues that is important. And my role or my co-head and I, what we aspire to do is to provide all of our analysts and our portfolio managers with the resources and the training to keep on with this dynamic journey of examination. So you don't get stuck in time with having to make value judgments, but you're always reevaluating to say, how is this company dealing with the most important issues that are facing it today? And these issues may change three quarters from now.
Schreane: And in terms of that just being dynamic and understanding trends that are here now, as well as things we might want to look out for in the future -- the role of big data and technology, I'm sure it has quite an impact on the way that you customize portfolios for your investors. Could you tell us how that role has changed or is changing?
Singhal: Yes, it's indeed an exciting time. We have a significant investment in data science and artificial intelligence. We also have a large quant team. And so we have, as our analysts develop frameworks on different material issues, many of which emerge over time. They work with our data scientists sometimes to be able to source unique points of data, because as you're probably well aware, ESG data, the disclosure is pretty poor.
I would say we’re in a stage where the financial markets were, pre-S.E.C., that there's no established norm or definitions to say, OK, if I say EBITDA, you can give me the exact definition of EBITDA or free cash flow. But if I pick a sustainability term, it's much more loose. And so I think in this, there is a great opportunity for creativity and for analysts to utilize big data to be able to discern things that are not very obvious in the market. And this is what we tell our analysts.
ESG analysis is a part of our analysts’ qualitative compensation assessment. And so they understand that one, this is an important part of their job, but they also realize the opportunity on the other side of it to differentiate themselves from the rest of the street, because ESG analysis is a different lens. It's not something that you and I studied in school when we were taking finance 101 or accounting 101.
And that different lens might provide insights that actually can help us provide better returns and better risk assessment.
Schreane: When do you think that will change? You know, we're seeing ESG rankings, various firms who are really focusing on understanding what those ratings look like and understanding how that should be ranked. Do you see that as something happening in the very near term in terms of having that standard that you mentioned?
Singhal: Yes, there does seem to be increasing recognition that we're going to need some standards.
I think it's hard to imagine to have a universal standard across the world because different markets are also evolving, and along different paths of the evolution. The ESG landscape in France, for example, is very different from where it is in the Netherlands and where it is in the US. Each of those markets are going to have unique aspects in terms of regulation, in terms of interpretation of different labels.
But I do think that there are some international bodies like the PRI, the U.N. supported PRI, which Lazard Asset Management has been apart of since 2014. They have had the largest surge of signatories this year in their history. And they are putting forward some great frameworks starting next year. They will require that all their signatories also report in accordance with the TCFD. So this is the Task Force for Climate-Related Financial Disclosures. Lazard is also proud to be a supporter of that, and what that would require coming back to standards is that asset managers and asset owners start to think about a very specific framework to think about climate change and how that impacts their financials, whether it's at a portfolio level or at a company level for a corporation, but really kind of breaking down the governance aspect of it, the strategy, the risk management, as well as specific metrics and targets.
So that, at least within climate change, that's an organization that's really starting to create some standards and metrics around.
Schreane: Yes, great. Well, Nikita, my final question, what is the big idea? Do you see changes happening that are just really going to catch us by surprise? Do you see something that's being repositioned or something that we should look out for in the near term, whether it's 2019, 2020 or beyond? What big ideas do you see percolating that you want to share with us today?
Singhal: I think the big idea is a realization that the investment landscape is changing and for some people, whether they like it or not. You know, when you think about the millennial generation and the expected $30 trillion or so of wealth that is likely to change hands in the next couple of decades, most of that money going into the hands of millennials and a lot into women.
You know, women for the first time are going to have this level of wealth. And in most surveys, these are surveys done by the largest wealth management companies, by consultants. It is millennials and women. Understandably, there is an overlap there. But these two demographics that have very strong beliefs in terms of how they want to see
their money managed - more responsibly, more thoughtfully, taking into consideration all stakeholders and being more long term oriented because it's in their long term financial interest for them to think about these issues. And so for asset managers, asset owners, anyone, individuals, for your own 401K, I think this is increasingly going to be something that you factor in. And that's really exciting. Schreane You heard it here first. Thank you so much. Thank you for joining us