Best's Review



Asset Management
Joining the Movement

Asset managers are taking an active role in environmental, social and governance investing, even if their objective is using risk analysis and pricing tools more than doing good in society.
  • Jeff Roberts
  • March 2019
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Key Points

  • Positive Impact: Responsible investing strategies provide risk analysis and pricing tools as well as make a positive impact on society and the environment.
  • Rising AUM: Global ESG assets under management have grown to more than $22 trillion, according to McKinsey & Co.
  • Financial Relevance: The growth of ESG accelerated about five years ago when academic studies linked corporate sustainability performance with strong financial results.


The movement has gone mainstream.

Insurers are increasingly putting the principles of responsible investing and the environmental, social and governance revolution into practice.

Global ESG assets under management are rising across all sectors—up to more than $22 trillion, according to a McKinsey &Co. study—as expanding regulation in Europe and growing client demand worldwide are further driving investment.

Although ESG has not yet substantially changed institutional investors' portfolios—including insurers' general accounts—it has impacted the way they analyze fixed income and equity assets, experts say.

Responsible investing's emerging strategies have become risk analysis and pricing tools that inform how insurers evaluate potential investments. They also are a pathway to good corporate citizenship amid rising pressure from the public.

“We realized this trend was becoming bigger,” said Johanna Köb, head of responsible investment for Zurich. “And we realized that there's a completely new suite of data out there, especially with ESG integration, that was gaining quality, breadth and depth that was really useful in building a holistic picture of a company on the equity and credit side and informing your judgments.

“And more and more studies were showing a connection in how those factors can influence performance. Ignoring this would not be very prudent or fiduciary.”

Responsible investing, ESG and their various forms are rising in importance and application among the asset management arms of insurers.

The vocabulary may differ from manager to manager, but it offers institutional investors analytical tools, reduced volatility and a way to both identify attractive opportunities and avoid environmental, social and reputational risks.

Responsible investing is based on the assumption that ESG factors have financial relevance. It differs from the older socially responsible investment (SRI) movement, which applies ethical and moral criteria to exclude businesses such as those involved in alcohol, tobacco or firearms through negative screening.

In September 2018, Newsweek proclaimed, “Over the past decade, a quiet revolution has been taking place in the world of investment; now, Environmental, Social and Governance (ESG) investing is going mainstream.”

More than 80% of S&P 500 companies report on ESG metrics compared to 20% in 2011, according to Axioma, an enterprise risk and portfolio analytics provider.

Not surprisingly, 83% of insurers view having an ESG investment policy as very or extremely important, according to BlackRock's annual Global Insurance Report, released in September 2018.

The target is not necessarily excess return, but protecting portfolios from toxic investments, tail risk and reputational risk. And all the while, they help make a positive impact on society.

Christian McCormick, Allianz Global Investors

You can argue that you will win in the long run by losing less in the short run. We’ve found through our own analysis and this growing research that companies that handle their material ESG risk better tend to have lower costs of capital ... and lower default risk.

Christian McCormick
Allianz Global Investors

“We believe asset management will evolve further into the type of ESG integration we employ in our overall company analysis from the traditional SRI approach,” said Christian McCormick, director and product specialist for Allianz Global Investors. “And arguably this will have a greater positive social impact than the traditional SRI pillars of divestment, exclusion and 'Best in Class.'”

Insurers are learning that being socially conscious has become a must in the evolving business environment. For instance, in March 2018, environmental activists protested outside Generali's Warsaw offices and delivered a petition calling on the insurer to stop underwriting Polish coal mines and plants.

In fact, AM Best created a new section in its rating methodology in December dedicated specifically to ESG throughout each of its building blocks.

Index performance data also shows that the integration of ESG factors as risk analysis and pricing tools can increase returns, reduce volatility and improve the risk-return profile, experts say.

That financial impact, along with growing pressure from regulators, investors and the public, has made responsible investing a critical component for asset managers.

Large European insurers such as Allianz, Axa and Zurich have taken the lead in implementing ESG investment strategies. In fact, Allianz applies ESG integration—using those factors to analyze assets for a more complete view through risk mitigation and pricing—into all of its investment strategies.

“There are potential financial costs or benefits associated with ESG risks and opportunities that really can motivate insurers and reinsurers to do it,” said Jessica Botelho, senior financial analyst, AM Best. “It is part of a movement, and companies realize they have to change and be seen doing the right thing since society at large and consumers are starting to demand this.

“But ultimately, companies are trying to capitalize on ESG opportunities or prevent or reduce losses.”

Managing Risk

Responsible investing managers are implementing ESG factors, their own proprietary analyses and indices such as the MSCI USA ESG, Sustainalytics and RobecoSAM to create negative exclusion screens, measure risk and identify equity and fixed-income opportunities.

“ESG risks and opportunities are often much longer term in nature,” Botelho said. “The trend over the past several years has been companies with good ESG scores and practices in general are able to better manage their risks. That results in not necessarily higher, but more stable returns.”

The stability stems from avoiding products and corporate activities deemed harmful to society or the environment, which have become financial liabilities.

Businesses in areas such as controversial weapons, coal-based energy production and tobacco pose significant reputational risk thanks to potential public relations disasters, regulatory action and activist uprisings.

Ask California utility PG&E, which filed for bankruptcy in late January, about environmental hazards following the 2017 and 2018 wildfires. Ask Facebook and Volkswagen about governance issues.

“Breaking down a very broad and nuanced picture and being more conscious of the risks and opportunities and what role investments could be affected by is important,” Köb said. “Understanding how a company will behave from a strategic perspective, from a legal and liability perspective is really important.”

The concept of ESG investing evolved from a 2005 landmark study initiated by former United Nations Secretary General Kofi Annan to integrate ESG principles into capital markets. That led to the launch of the U.N.'s Principles for Responsible Investing, the 2006 set of standards and initiatives for socially responsible and sustainable investment.

“Insurance companies have been doing this type of analysis forever,” McCormick said. “They just never called it ESG. But the U.N. PRI really brought that mindset.”

Then the growth of ESG accelerated about five years ago when studies by academics such as George Serafeim, Bob Eccles and Ioannis Ioannou linked quality corporate sustainability performance with strong financial results.

Companies with better ESG standards usually produce strong financial performances and beat their benchmarks, according to an Axioma study. The portfolios weighted with companies holding higher ESG scores outperformed benchmarks by 81 to 243 basis points from 2014 to 2018.

“It helps in rounding out the picture of an asset and avoiding risks,” Köb said. “Research shows there's little chance looking at ESG factors will hurt you if you use the information around the edges and still have a diversified portfolio, and it can really help to avoid risks if something happens.”

Some large investors such as the California Public Employees' Retirement System (CalPERS) and the California State Teachers' Retirement System have divested from coal companies due to state mandates. CalPERS also divested from tobacco in 2000.

“But on the whole, this has not really become a large part of institutional investor portfolios,” McCormick said. “Still insurers are ahead of the rest of the financial services marketplace in their general accounts in terms of their ESG reporting.

“In terms of their general account investments, we've also seen an increase. It's a natural fit for an insurer with the way they approach their business.”

It's a good fit because the risk analysis component of ESG integration works well with fixed income.

And with the rise of social media and the digitization of information, ESG analysis can also better assess reputational risk than traditional, fundamental methods.

“You can argue that you will win in the long run by losing less in the short run,” McCormick said. “We've found through our own analysis and this growing research that companies that handle their material ESG risk better tend to have lower costs of capital, lower credit spreads and lower default risk.

“So you have a quote-unquote safer fixed-income investment.”



European First Movers

European insurers have taken a leading role in responsible investing.

Regulation has driven some of the growth, especially with climate-related, nonfinancial reporting requirements.

A European Commission directive requires listed financial institutions with more than 500 employees to disclose ESG initiatives as part of their annual reporting.

In May 2018, European regulators also proposed mandates for institutional investors who claim to have sustainability goals to show how their investments are aligned with these objectives.

The proposed regulation would also require insurers, asset managers and pension funds to report on the procedures they have in place to integrate ESG risks into their investment and advisory processes and list how those risks could impact financial returns.

“The big primary players and reinsurers like Munich Re, Swiss Re, Hannover Re, Allianz and Axa have really embraced ESG and are becoming increasingly more transparent,” Botelho said. “They've got really sophisticated divisions and systems in place to help to do this.

“And then there's the rest of the market. This disparity between large and smaller players may be driven by the lack of resources or expertise on knowing to how to effectively disclose and implement some of these practices.”

But there has not yet been a major regulatory push in the United States. Most states do not have frameworks in place, not even on a voluntary basis.

In fact, in April 2018, the U.S. Department of Labor said pension fund fiduciaries “must not too readily treat ESG factors as economically relevant” and “must always put first the economic interests of the plan in providing retirement benefits.”

California is an exception. It requires insurance companies to disclose information about carbon-based investments and has urged insurers to voluntarily divest investments in thermal coal.

Axa divested from coal in 2015 and exited from tobacco investments the following year. It also restricts investment in controversial weapons.

In May 2018, Allianz said it will no longer invest in energy companies that put the Paris Climate Agreement's two-degree Celsius target at risk. In the long-term, companies that fail to adjust their greenhouse gas emissions will be gradually removed from its portfolio.

And Generali said in February 2018 it will increase its investment exposure to green businesses and will gradually divest from coal-related companies.

Jessica Botelho, AM Best

There are potential financial costs or benefits associated with ESG risks and opportunities that really can motivate insurers and reinsurers to do it. It is part of a movement, and companies realize they have to change and be seen doing the right thing.

Jessica Botelho
AM Best

Concerns Remain

But just because parent insurance companies use ESG exclusions to underwrite—or decline to underwrite—certain businesses does not necessarily mean their asset management arms share them in investing for clients.

Managers have a fiduciary duty to deliver return and avoid conflicts of interest.

While Allianz SE no longer underwrites businesses involved in coal, Allianz Global Investors—which has about $30 billion in dedicated ESG strategies—is not similarly restricted.

Zurich has only two exclusions on its investment side: weapons banned by the United Nations, such as land mines and cluster munitions, and companies that derive more than half of their revenue from thermal coal. It will run off existing holdings in such companies.

“For example, from an ESG integration point of view, we interpret tobacco through a pricing mechanism,” Köb said. “You would not make a judgment call on whether tobacco is good or bad. You would look at environmental factors, the labor conditions and the governance part of it.”

Institutional investors were initially reluctant to embrace the concept of responsible investing over concerns of lost return. Some still worry, McCormick said.

“Absolutely, we have run into numerous investors—especially on the institutional side,” he said. “The uptake on the institutional side has been much slower. Despite some of the academic research that's been done, ESG has just not been at the forefront of investments long enough for there to be a good data set.

“That's why ESG integration has gained a lot of traction with institutional investors who are saying, 'We have a fiduciary duty to invest our money purely for the benefit of financial returns for our constituents.'”

It is also why asset managers create separate responsible investing strategies.

Zurich divides its offerings into ESG integration, impact investing—consciously making a positive impact on either the environmental or the social space—and advancing together. Advancing together is its collaboration with other asset managers to make ESG more mainstream and grow the impact investing market.

Allianz offers ESG integration and provides socially-responsible investing for clients who want to earn financial return while making a positive impact on society.

But concerns remain over limiting returns, especially in sectors that historically pay large dividends.

CalPERS' decision to divest from tobacco in 2000 has angered pensioners recently due to lost return. A 2018 report by Wilshire Associates, the pension system's general investment consultant, revealed it has lost $3.581 billion in investment gains by divesting.

“Holdings in 'controversial' companies, such as tobacco and oil and gas manufacturers, may provide higher returns, at least in the short term,” Botelho said. “However, it is about understanding how sustainable those results will be.

“If you invest in tobacco or coal extraction for instance, over the longer term there may be issues concerning the viability of that business model perhaps driven by a change in legislation, which can result in having 'stranded assets' on the balance sheet.”

But even in Europe, fears remain.

One quarter of investors globally are concerned that investing sustainably could harm returns, according to Schroders Global Investor Study 2018. In Europe, it's 23% of investors.

“Not everybody has taken up all these ESG practices,” Botelho said. “We see less ESG considerations in the investment portfolios of London market participants. They're in a low-interest rate environment and looking for higher yields where they can get them.”

But many companies see the value, whether they want to make the world a better place or just ensure the quality and stability of their portfolios.

Zurich, for one, is receiving more questions and engaging in frequent dialogue with its large corporate clients.

“Many are really stepping up their game when it comes to their sustainability strategies,” Köb said. “They are even looking into their supply chains and rating their suppliers on sustainability.”


The Umbrella of Responsible Investing

Responsible investing has joined balance sheet analysis as a critical component to consider when investing in equity or corporate bonds.

There are five applications or tools “within the umbrella of responsible investment,” according to Johanna Köb, head of responsible investment for Zurich Insurance.

“The strategies have broadened,” she said. “There's ESG integration. There's impact investing and thematic investing.

“And on the ESG integration side, the data that you need is more prevalent, more systematic, broader in coverage and more reliable.”

Negative exclusion screens are the most common tool, whether based on quantitative metrics or investor values, according to Jessica Botelho, senior financial analyst, AM Best. Simply, it means divesting or avoiding companies that work in predetermined industries such as coal or tobacco.

“It is still No. 1 and a very broadly applied one,” Köb said.

ESG integration is another strategy rising in popularity. The values-neutral assessment tool is applied as a pricing and risk mechanism.

“Where are the risks? Where are the opportunities?” Köb said. “What should the proper risk-adjusted price be?”

Impact investing is also “definitely” on the rise, she said. Based on moral and ethical motives, the objective is to make a positive impact in society while ensuring stable investments.

A thematic approach has been growing in popularity among retail funds, high net worth individuals and smaller institutional investors. The idea is to choose a sustainability topic such as climate change and combine it with an asset class. It is too narrowly focused for large institutional investors.

And active ownership involves engagement with companies and exercising voting rights to reduce risks, maximize returns and have a positive impact on society and the environment.


Jeff Roberts is a senior associate editor. He can be reached at

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