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RESPONSIBLE INVESTMENT QUARTERLY Q2 2021 Responsible Investment Quarterly – Q2 2021

CONTENTS

01 Foreword...... 3 02 Portfolio manager’s viewpoint: Jin Xu & Jess Williams...... 7 03 Country focus – United States...... 11 04 to bear upon banks’ financial performance...... 14 05 The case for sustainable investing in the UK...... 17 06 Rethinking the social purpose of asset management...... 21

Stewardship in action 07 Voting Q2...... 25 08 Engagement highlights...... 26

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01 Foreword

two-thirds of the world’s increase While has been a primary in emissions since 2000.1 China’s contributor to warming in recent success in delivering its 2060 net decades, as of 2012 the US remained zero target will greatly influence global the largest contributor on a cumulative carbon budgets and the likelihood of basis since the industrial revolution. limiting warming to less than 2°C. In a dramatic volte face, President The country offers both challenges Biden’s administration has and solutions. Around 70% of industrial recommitted the US to the carbon emissions are generated by Agreement and is acting on newly steel, cement and chemicals with announced net zero commitments. China alone accounting for 60% In our Country Focus on the US we of steel and cement production.2 explore sustainable investing Stateside Conversely, manufacturing capacity and the trillion-dollar infrastructure Andrew McKee for clean energy technologies such as plan which promises an economic Senior Investment Analyst, batteries and solar photovoltaic panels renaissance built around low-carbon Responsible Investment is concentrated in the country. Jin Xu transport and green energy. and Jess Williams discuss investment implications in greater depth below.

As summer temperatures rise again to record levels and wildfires across Europe and North America, is a fitting to reflect on environmental risks and opportunities, and our impact on the world. Publication of the Intergovernmental Panel on Climate Change Sixth Assessment Report underlines a need for immediate and considered action to meet climate targets. In this edition of Responsible Investment Quarterly we explore how such actions are being implemented at a portfolio, firm, national and global level.

According to the International Energy Agency (IEA), China accounted for 30% of global carbon dioxide emissions China accounted for 30% of global carbon dioxide emissions in 2019. in 2019 and contributed just under Source: iStock.

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Can a trillion-dollar infrastructure bill sustainable infrastructure. This trend This not only aids the identification solve these problems? The IEA, in its is likely to continue as the UK forges of industry leaders and laggards but 2020 Energy Technology Perspectives new regulation governing sustainable facilitates more effective engagement report, estimates that more than business and investment activities, and the prioritisation of research into $100 trillion of infrastructure investment learning from the European Green Deal, new and existing investments. is required from 2019-2070 to meet EU Taxonomy and related disclosure net zero, according to its Sustainable regulations. A Green Technical Advisory Environmental factors encompassing Development Scenario. 90% of this Group (GTAG) was formed in June to climate change are important investment relates to electrification. oversee the government’s delivery of a components of analysis, varying in While government support is Green Taxonomy.4 This is reminiscent materiality according to industry, necessary, especially in aiding of the earlier EU Technical Expert location and idiosyncratic exposure. the adoption of new technologies, Group which has helped shape the However, the equitable consideration effective allocation of in the region’s sustainable finance regulation. of social impacts – even for private sector is required to fill a environmental investments such substantial funding gap. Financial A central responsibility of the as carbon offsets – is vital. In many institutions therefore occupy a critical UK government’s GTAG is to clamp cases, the compromise of social 5 role in deploying capital, identifying down on greenwashing. This values may sooner jeopardise a opportunities while helping their clients objective marks a recognition by company’s licence to operate than meet net zero targets, mitigating authorities of the grey area around transgression of environmental physical climate risk and instigating sustainability in which corporates, standards. It is encouraging to note a capital allocation-like approach to including asset managers, operate. the industry’s appreciation of this, and carbon budgets. Representing our Regulatory pressure is mounting increased attention towards operating Credit and Responsible Investment worldwide with similar comments policies and practices with reference teams, Paul Smillie, Rosalie Pinkney made by the US SEC, illustrated most to the UN Global Compact and Guiding and Natalia Luna provide an update on recently by fund guidelines issued Principles on Business and Human 6 how climate change stands to impact by the German Federal Financial Rights. Exploring this theme further, banks’ financial performance. Supervisory Authority (BaFin). Kelly Cavagnaro closes the quarter’s Here at Columbia Threadneedle we commentary by rethinking the social -listed banks and insurers are cognizant of shifting legislation purpose of asset management. accounted for nearly 20% of the during the construction and FTSE100 in 2015; , this has fallen management of funds, emphasising to just 13%.3 In addition to highlighting client returns and downside risk significant valuation discrepancies, management. With to Source: 1 Energy Technology Perspectives 2020 Sonal Sagar and Michael Hamblett in Responsible Investment integration, (windows.net) UK Equities illustrate how the market’s a firm-wide transition is ongoing 2 Net Zero by 2050 – A Roadmap for the Global Energy Sector (windows.net) constituents are increasingly aware and enhanced investment tools and 3 FTSE 100 Index weights by Industry Group of and aligned with UN Sustainable dashboards are entering beta-stage (GICS) for ‘Banks’ and ‘Insurance’ calculated by Bloomberg on 25 August 2015 (19.6%) and Development Goals. Their viewpoint development. We adopt the same 25 August 2021 (13%) discusses how our investees produce rigor when analysing issuers’ claims 4 Independent expert group appointed to advise or facilitate improved outcomes in and decarbonisation targets and have Government on standards for green investment - GOV.UK (www.gov.uk) both environmental and social spheres, developed a proprietary cloud-based 5 New independent group to help tackle from decarbonisation to investment tool to assess their credibility. ‘greenwashing’ – GOV.UK (www.gov.uk) 6 Efforts underway on Human Rights equivalent to in healthcare, social equality and CA100+ (responsible-investor.com)

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02 Portfolio manager’s viewpoint

Jin Xu Jess Williams Portfolio Manager Portfolio Analyst, Responsible Investment

China is a double-edged sword: Figure 1: China’s renewable output it is the world-leading renewables Wind Solar developer, installing more than 2010-2019 2010-2019 2010-2019 double the gigawatt (GW) capacity of China 205 China 213 China 477.9 its nearest competitor over the past 123.2 U.S. 71 U.S. 74 Indonesia 22.0 decade both in terms of wind and 17.9 solar power (Figure 1), but at the Germany 34 Japan 60 Korea (Republic) 10.6 same time it has seen the highest Turkey 9.7 6.1 India 26 India 44 coal capacity additions over the same 5.1 Malaysia 4.9 period – nearly quadruple that seen U.K. 19 Germany 39 in India. The Chinese government 4.8 Lithuania -2.5 15 20 announced it is aiming to reach peak Estonia -2.5 -2.9 coal emissions by of the France 11 Australia 14 Australia -2.9 current five-year plan ending in 2025, Denmark -3.7 Canada 10 U.K. 13 but new coal plants with 40-year life Belgium -4.8 Korea Canada -7.6 spans do not fit well with a 2060 net Turkey 8 11 (Republic) Germany -9.9 zero emissions target. China is a U.K. -21.2 7 France 10 country of great progress and great U.S. -63.5

opportunity, but also of contradictions. Source: Bloomberg New Energy Finance, 2020.

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In absolute terms, China is the With China’s new net zero targets The market size of the opportunity biggest contributor to global emissions and its existing leadership in the is huge. The International Renewable – but this is mostly due to its size. renewables space – the country Energy Agency (IRENA) predict that When looking at emissions on a per produces 70% of the world’s solar by 2050 8,519 GW of solar would person basis it is much lower than the panels, half the electric vehicles be required in a <2 °C degrees of US and roughly in line with the EU – the and has a large share of a lot of warming scenario in line with the big difference, however, is that after the materials that underpin battery Paris agreement – this represents more than a century of rising emissions, technology – it is unsurprising that an 18x increase on 2018 levels. the EU is on a downward trajectory investors have been taking a closer Asia, and mostly China, is predicted while China’s are not (Figure 2). Another look at the Chinese renewables to account for more than 50% of total point to consider with country level market. Increasing investor attention, installed solar power compared to emissions is that these are production- especially from ESG-conscious 20% in North America and 10% in based emissions figures. This means investors, has driven a rise in Europe. Onshore wind predictions that the emissions generated from the corporate attention to sustainability tell a similar story, with 5,044 GW production of Chinese-made goods disclosure. The use of forced labour required by 2050 – 9x what had been which are consumed in the EU or the in supply chains is a particular area installed by 2018. IRENA predicts that US is captured in China’s footprint. of focus and risk currently. more than 50% of this capacity would If we looked at per consumption also be in Asia. emissions, China would likely look Towards the end of 2021 it is much better than the EU, the US and expected that a more detailed With the recent announcements the UK. decarbonisation roadmap will be indicating a step change in the focus published. This could solve some of on energy transition, the improving Fig 2: Comparing emissions the coal conundrums and is likely disclosure standards and the to focus on three key areas: carbon significant opportunity set, we believe Per capita emissions 2017 2018 2019 pricing, green finance and tech the Chinese market could be one (tonnes CO2e) investment. These developments to watch. Although, importantly for United States 16.2 16.6 16.1 have the potential to accelerate the international ESG investors, this will China 6.9 7.0 7.1 already bullish scenario. be conditional on ensuring that supply EU-27 7.0 6.9 6.6 chains have no exposure to the Uyghur 5.8 5.7 5.5 human rights abuses in . Source: , 2020.

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03 Country focus – United States

While one in every three introduced in the Trump era which were Sustainable funds in the US also designed to discourage investments continue to attract record inflows. dollars in the US is managed based on environmental, social and In 2020, flows into US open-ended following sustainable governance (ESG) criteria. and exchange-traded sustainable investment strategies, and funds hit $51.1 billion, more than Earlier this year the Department of double the year before and almost the nation is the world’s Labor announced it would not enforce 10 times the level of 2018, both of largest country issuer of a requirement for plan sponsors which were record years.8 According such as 401(k) providers to take and to research from Morningstar, green bonds, there remain document certain steps to confirm investments into sustainable funds significant opportunities for that they were not sacrificing financial represented 24% of total flows into returns when devoting money to US stock and bond funds in 2020. growth. Early signs indicate environment, social and governance the Biden administration -focused investments.3 Separately, The Covid-19 pandemic, combined could provide a ‘turbo boost’. having voted in 2020 against requiring with the 2020 election result and certain disclosures relating to ESG, the growing concerns over climate change, When it comes to climate change, Securities and Exchange Commission are likely to support continued strong the intentions of President Biden’s (SEC) is now preparing a framework of investment flows into sustainable funds. rules to govern ESG reporting.4 administration could hardly be clearer: When it comes to green finance, within hours of assuming power he had Despite a pushback against the US also boasts a vibrant market. announced that the US would rejoin ESG investing under the Trump In green bonds, it tops global 1 the Paris agreement. Since then the administration, the sector is well- rankings with $51.1 billion of issues US has announced targets in line with poised. At the start of 2020, total in 2020, according to Climate Bonds Article 4 of the Paris Agreement to US domiciled assets under Initiative.9 However, Germany and emissions to 50%-52% below 2005 management following sustainable France, in second and third place levels by 2030 and to achieve carbon investment strategies5 had grown to with $40.2 billion and $32.1 billion 2 neutrality by 2050. $17.1 trillion, up from $12 trillion at of issuance respectively,10 have more There has been similar positive the start of 2018 and representing a developed green bond markets impetus in responsible investment (RI). third of all assets under professional relative to the size of their economies, 6 Biden’s choice as head of management. in part because both countries have Economic Council, Brian Deese, is an launched benchmark-setting Institutional investors make up a green bonds. expert in sustainable investing. Further, large proportion of this, accounting Biden has created the position of for $6.2 trillion at the end of last year, To date, there has been a reluctance by climate tsar on the National Security with public pension funds representing the US Treasury to follow suit. But, given Council. Most crucially, he has also more than half that total.7 Biden’s commitment to tackling climate begun to roll back key regulations

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change, analysts are closely watching There is certainly massive growth Source: 1 https://www.state.gov/the-united-states-officially- whether the current US government potential. Despite its size, GSS debt rejoins-the-paris-agreement/ will soon commit to launching a green represents only a tiny proportion of 2 United States of America Nationally Determined bond, a which would add further debt markets and, in the US, just Contribution, April 21, 2021. 3 U.S. Department of Labor Backtracks on impetus to the market. 0.6% of the $46 trillion US bond Controversial Trump-Era ESG Rules, ESG Today, markets.13 https://www.esgtoday.com/u-s-department-of- Even so, counting all cumulative labor-backtracks-on-controversial-trump-era-esg- rules/ debt issued, the US remains the To date, the largest green bond 4 SEC to Move Quickly on Proposed ESG Disclosures, world’s largest single country issuer from a non-financial corporate is the The National Law Review, https://www.natlawreview.com/article/sec-to- of green, social and sustainability $1.5 billion issue by Apple in 2016, move-quickly-proposed-esg-disclosures (GSS) bonds, buoyed by multiple the proceeds of which were used for 5 US SIF counts two main strategies as sustainable repeat issues of green and social and energy and investing: ESG incorporation (applying various environmental, social and governance (ESG) bonds by Fannie Mae, a large guarantor water efficiency projects. Indeed, criteria in investment analysis and portfolio of mortgages. In fact, Fannie Mae is companies like Apple, , selection) and filing shareholder resolutions on ESG issues. the largest green issuer in the US: by and Visa are 6 The US SIF Foundation’s Biennial “Trends Report” the end of Q1 2021 it had launched viewed as leaders in sustainability, Finds That Sustainable Investing Assets Reach 11 $17.1 Trillion, US SIF, https://www.ussif.org/ 4,200 deals totalling $94 billion. helping propel the US to 13th place blog_home.asp?Display=155 in a global ranking of 48 countries, 7 Sustainable and Impact Investing – Institutional Investors 2020, US SIF, https://www.ussif.org/ Green bonds have a significant role according to the latest Morningstar to play in transitioning the US to a Files/Trends/2020%20Trends%20Report%20 Sustainability Index.14 However, Europe InfoGraphic%20-%20Institutional%20Investors. greener economy. Globally, energy was continues to lead this index with the PDF the most popular use of proceeds 8 A Broken Record: Flows for U.S. Sustainable Funds Netherlands, France and the Again Reach New Heights, Morningstar, of green bonds in 2020, followed by top three countries in the world when https://www.morningstar.com/articles/1019195/ low carbon buildings and low carbon a-broken-record-flows-for-us-sustainable-funds- it comes to corporate-level again-reach-new-heights transport. The US is little different. sustainability. 9 https://www.cnbc.com/2021/02/11/sustainable- Since the inception of the US market, investment-funds-more-than-doubled-in-2020-. html buildings have been the leading use of It is clear the European Union (EU) 10 Record $269.5bn green issuance for 2020: proceeds of green bonds followed by has progressed further than the Late surge sees pandemic year pip 2019 total by $3bn, Climate Bonds Initiative, renewable energy. US when it comes to sustainable https://www.climatebonds.net/2021/01/record- investing. This has been partly through 2695bn-green-issuance-2020-late-surge-sees- Despite this, the US economy remains the European Green Deal which is pandemic-year-pip-2019-total-3bn heavily reliant on fossil fuels. Last year 11 North America State of the Market 2021, Climate aiming for European climate neutrality Bonds Initiative, https://www.climatebonds.net/ the country was the largest oil and by 2050, and EU Taxonomy rules which files/reports/north_america_sotm_final.pdf natural gas producer globally, and in 12 North America State of the Market 2021, Climate require financial services firms to Bonds Initiative, https://www.climatebonds.net/ 2019 82% of primary energy production disclose how products fare in terms files/reports/north_america_sotm_final.pdf 13 North America State of the Market 2021, Climate in the US came from fossil fuels – of environmental sustainability. 12 Bonds Initiative, https://www.climatebonds.net/ down from just 86% in 1990. files/reports/north_america_sotm_final.pdf Despite a strong global position in 14 Morningstar Sustainability Atlas, Morningstar, But the Biden administration has green bonds and sustainable investing, https://www.morningstar.com/content/dam/ set ambitious targets for change. marketing/emea/shared/guides/Sustainability_ it is time for the US to play catch up. Atlas_2021_April.pdf?utm_source=eloqua&utm_ Currently, almost two thirds of From roll backs of anti-ESG rules to =email&utm_campaign=&utm_ electricity generation comes from content=22496 the US government’s $2 trillion climate Mention of specific issuers is not a fossil fuels. Under the US plan, the early signs from the Biden recommendation to deal. decarbonisation policy, Biden has administration for both green finance set a goal to reach 100% net neutral and responsible investment are positive. electricity by 2035. This should help underpin further strong growth in US green bonds.

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04 Climate change to bear upon banks’ financial performance

Paul Smillie Rosalie Pinkney Natalia Luna Senior Credit Analyst, Senior Credit Analyst, Senior Thematic Investment Analyst, Fixed Income Fixed Income Responsible Investment

For investors evaluating financial A broad spectrum of central banks for investors evaluating banks. institutions, the climate crisis will fear climate change could spark the Even in the short term there are risks soon become a key consideration. next financial crisis. For this reason, to earnings, while in the medium term Our research shows there is already regulators in Europe and the UK are it is likely that banks judged to have a wide dispersion between the sector already beginning to scrutinise banks’ higher climate-related exposures will leaders and laggards. resilience to climate change – looking face higher capital requirements, not into both the likely stresses from the to speak of reputational risks. In his historic 2015 speech, Mark shift to a zero-carbon economy over Carney, then Governor of the Bank the coming decades, and the impact But this is not just a question of risk. of , invoked the spectre of a of extreme weather. Looking ahead a few years, there may “Minsky moment”, a climate-driven also be opportunities for the banks collapse in asset prices. Back then For now, though, central bankers’ that lead the financing of the transition his words seemed dystopian, a distant anxiety is not reflected in fixed income to a zero-carbon economy. Indeed, it prospect. Today, however, they look or equity markets, which seem is estimated that green investing and more prescient. relatively unaffected by climate risk. financing could harvest as much as Yet over the next few years climate $50 billion of revenue over the next change could become a key driver of five to 10 years.1 financial performance and an important

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Drivers of change so in 2021; and the ECB plans to in meetings. We found clear patterns 2022. Looking forward to 2025, the emerging. At a high level, some of As climate change becomes a defining European Banking Authority intends to the UK, Dutch and Swiss banks are topic, we believe it will soon no longer introduce its ESG capital review, which performing well. The Nordic, French, be enough for banks to make high- will differentiate the capital treatment Spanish and Japanese banks are level climate pledges. Under mounting of assets according to environmental a little further behind and the Irish, scrutiny they will have to improve and social factors. In the UK, banks will German, Italian and Chinese banks climate risk disclosure, show that have to abide by the standards of the are lagging. climate considerations feed through Task-Force for Climate-Related Financial into underwriting standards and Disclosures by 2025, providing We have started to factor banks’ reduce their carbon footprints. standardised information on their exposure to climate change risks into climate risks. our research. While climate change is Although the extent of banks’ lending not yet impacting banks’ earnings or exposure to fossil fuels is relatively In the US, too, tougher regulation is capital requirements, it could do so as modest – carbon-intensive sectors clearly coming. In November 2020 soon as two to five years from now. to-date represent less than 10% of the US Federal Reserve identified As we look forward two years when European banks’ lending exposure – climate change as a risk to financial evaluating companies, we are now a climate crisis could increase banking stability for the first time. What’s more, incorporating this into our fixed income system losses by up to 60%, according President Biden has stated that he research and assigning relative ratings to European Central Bank (ECB) views climate change as a priority and to banks. These ratings are beginning calculations , and impact earnings as plans to require public companies to to affect portfolio construction. fossil fuels account for 10%-15% of disclose climate-related financial risks. global wholesale banking revenues.3 In our view, it will not be long before investors generally start to differentiate Already reputational risk is rising. Leaders and laggards between the leaders and laggards. Take the criticism of JP Morgan Chase So far, though, there is little evidence That will create an opportunity for in 2020 for its energy lending.4 that banks are cutting back their active investors, while rewarding the It was revealed as the biggest fossil fuel lending, with the important banks that have acted early to address financier of fossil fuels globally in a exception of coal. But investors may climate change with a competitive cost report compiled by a collaboration soon start differentiating between of capital. of non-governmental organisations the leaders and laggards as better (NGOs)5 including Rainforest Action regulatory disclosure allows them Network and BankTrack. With public to do so. Additionally, shareholder feeling about climate change mounting, engagement and NGO activism could the damage to reputations Source: soon impact bank stocks’ valuations. 1 , 2021. should not be ignored. 2 European Central Bank, 2021. 3 https://www.banktrack.org/article/banking_on_ We conducted an engagement exercise Bank regulators are beginning to climate_change_fossil_fuel_finance_report_ with more than 50 banks globally. card_2020 enforce change, especially in the EU We asked questions around climate 4 FT.com, JPMorgan Chase promises to shift portfolio and the UK. The French and Dutch away from fossil fuel, 7 October 2020. strategy and climate risk management 5 Banking on Climate Change, https://www.ran. central banks ran climate stress tests and followed up with a series of org/wp-content/uploads/2020/03/Banking_on_ in 2020; the did Climate_Change__2020_vF.pdf, March 2020.

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05 The case for sustainable investing in the UK

Sonal Sagar Michael Hamblett Portfolio Manager, Analyst, UK Equities UK Equities,

In the UK, vaccination rates were community’s desire to become more rising and pandemic restrictions responsible custodians has shifted easing as we moved into the the narrative of what the true goal of summer. As this becomes something investing should be. increasingly seen around the world,

it gives us an opportunity to reflect Tailwinds for sustainable on the existing trends the Covid-19 Decarbonisation There has been pandemic has accelerated, including investing an acceleration of net zero targets a focus on environmental, social Since 2015, the United Nations’ from governments around the world, 2 and governance (ESG) analysis and 17 Sustainable Development Goals including China by 2060 and the 3 sustainable investing. (SDGs) has represented a catalyst US by 2050. In November 2021 the for change.1 The past 20 months of UK will be the focus of the world Greater company awareness of when hosts the 26th United ESG factors, particularly the social the pandemic have been a watershed moment for governments globally Nations Climate Change conference, factors as they pertain to employee where the focus will be on increasing health and safety, and the investment – with structural trends supporting achievement of the goals: the pace of global decarbonisation,

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with implications for all sectors. The case for sustainable We expect decarbonisation targets to become more ambitious. investing in the UK There is a strong desire to align global investment positively with the SDGs.

The backdrop of structural megatrends Healthcare The importance of mentioned above should be good news innovative healthcare companies and for investors in the UK equity market, strong systems has been highlighted which has a plethora of companies by the pandemic, as has the need Sustainable infrastructure exposed to these trends and which for encouraging healthier and Forthcoming infrastructure spending we continue to believe is undervalued lifestyles, across all age groups. is material: the EU will invest more (Figure 1 and Figure 2). Governments worldwide will than €600 billion in the next five increasingly focus on public health Around 75% of companies in the years4 and President Biden’s $1 trillion programmes such as around mental FTSE All Share earn their profits infrastructure bill is making its way 7 health and wellbeing, in addition to from outside the UK, and so offer through the Capitol. In the UK, public obesity reduction strategies, including global exposure to under-the-radar sector investment is at its highest level healthier eating and encouraging sustainable leaders, backed up by the in 65 years.5 With the built environment exercise. market’s solid corporate governance contributing around 40% of the UK’s practices. Yet there is a large valuation 6 total carbon footprint, sustainability disparity between both the index and will form a key part of budgeting some of those global sustainable decisions. leaders (Figure 2).

Figure 1: The UK provides a rich set of opportunities to invest in global sustainable leaders

Structural theme Social equality and inclusion Infrastructure People in lower-income communities n UK public sector investment to highest level in 65 years. £100 billion over 5 years have been disproportionately affected n A boost to growth of 0.3-0.4% of GDP1 by the pandemic. The increase Decarbonisation and Energy Transition in focus on the S in ESG means n Increase in global net zero targets, COP26 as a driver addressing is a key Healthcare innovation part of economic recovery programmes n Support of the UK’s world leading hub for life sciences through, for , improving access Inclusive , financial services and technology to education, financial services and n Financial inclusion, Social mobility, levelling up technology. Source: Columbia Threadneedle Investment, August 2021.

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Figure 2: UK versus US and Europe

Valuation Price to Earnings 2021E Dividend Yield (%) UK 13.4x 4.0 Europe ex UK 18.5x 2.6 USA 22.7x 1.4

UK shares at record low relative to US Price-to-book valuation of UK versus US3

Source: Bloomberg, as at July 2021. The mention of stocks is not a recommendation to deal.

We value in the UK market a demonstrable positive impact on Our robust and fully integrated which continues to trade at too wide the environment or society, measured process – focusing on ESG, a discount relative to international through revenue alignment with the sustainability and strong fundamentals indices. The certainty around SDGs alongside strong or improving in an undervalued market – means and success around the vaccine roll ESG characteristics, fundamentals we are well positioned to benefit from out should put the UK market in a and an attractive valuation. the UK’s broad opportunity set of strong position to perform. In the global investment, megatrends and first half of 2021 the FTSE All Share Engagement is a key part of the the rise of ESG analysis and has rallied but continues to remain a UK Equity team’s investment process, sustainable investing. laggard versus some global indices. which often utilises non-standard The opportunity for valuation arbitrage ESG and sustainability data. remains and, as a result, merger and We meet CEOs and CFOs during results roadshows, as well as Source: acquisition activity in the UK is at 1 Then for end: https://www.un.org/development/ record levels. chairmen, other board members and desa/publications/sdg-report-2017.html heads of sustainability to assess 2 https://www.reuters.com/article/un-assembly- climatechange-idUSL2N2GJ105 thoroughly companies’ fundamentals, 3 https://www.theguardian.com/us-news/2021/ Our investment process financials, ESG risk management, mar/15/race-to-zero-america-emissions-climate- crisis For those products that target specific targets and, crucially, sustainability. 4 Recovery and Resilience Facility, 28 May 2020. Essentially we are interested in 5 https://www.ft.com/content/8c6b43ec-5fc3- sustainable outcomes, we aim to 11ea-8033-fa40a0d65a98 identify businesses with strong, how these companies are mapping 6 https://www.ukgbc.org/climate-change/ long-term performance potential their strategies with a global shift to 7 https://www.investorschronicle.co.uk/ sustainable investment. ideas/2021/05/10/could-the-uk-be-the-trade-of- whose products and services have the-decade/

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06 Rethinking the social purpose of asset management

trends as part of a holistic process Asset managers undoubtedly play that aims to improve investment a vital role in allocating capital for outcomes – and society – together. investors, including assessing the financial impacts of these evolving Over the past few years within the societal initiatives. In fact, prudent asset management community allocation to well managed companies there has been growing support who consider all factors impacting for investment decision making risk and return is often considered frameworks that better assess an essential component of a sound and incorporate factors that were investment process. At Columbia historically considered “non-financial”, Threadneedle Investments we have such as climate change and found similar efficacy in our own in all forms. responsible investment (RI) ratings Kelly Cavagnaro Driven by mounting evidence that as signals of potential long-term Head of Global Consultant Relations consideration of such factors can competitive advantage. Through this help identify investments that are lens of expanding investment research better positioned to manage the risks, to include newly deemed material challenges and growth opportunities factors that influence a risk/return inherent in a business, it has become profile, even the most capitalistic Growing up in suburban in increasingly clear that this is no longer investor is challenged to rethink their the there were a few certainties old “value versus values” approach if they are to remain aligned in my life: the Red Sox were never debate, but rather there has been an with evolving market drivers. going to win a World Series, girls extraordinary and exciting definitional who liked maths were just not cool, For example, it has become a change whereby factors that were and should be worn at every commonly accepted principle that historically considered non-financial opportunity. A more esoteric “truth” assessing the risks involved in energy by many are now objectively material. during that time was the belief transition can shape an informed For example, Aon recently concluded that societal initiatives and capital view of a company compared to its that “integrating ESG into the allocation were mutually exclusive. peers and provide a more thorough investment process and investment Today, writing this while sporting my picture of investment opportunities strategy is inherently consistent with brightest pink scarf, am happy to and challenges. Indeed, such a view fiduciary duty and acting in the best report only one of those “certainties” is quickly becoming foundational to long-term interests of stakeholders”.1 remain – a subtle but powerful identifying businesses that are better Enter the convergence of societal recognition of a changing world where, equipped to deliver long term value. initiatives and capital allocation – an increasingly, capital allocators are integration that is redefining investment appreciating the benefits of aligning decision making. their investment decisions with societal

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Driving these developments is Labor recently announced a decision thinking. We know the statistics the increasingly critical role that to not enforce a requirement for plan here: Fortune 500 companies with a both regulation and demand play sponsors such as 401(k) providers higher representation of women on in addressing climate change, to take and document certain their boards outperform their peers diversity and other important societal steps to confirm that they were not by 53%; and organisations with high issues – laying the groundwork for sacrificing financial returns when ratings for inclusion and diversity are more engagement for the common devoting money to environmental, 70% more likely to have success in good. Capital is flowing strongly social and governance-focused new markets and 45% more likely to towards businesses with a focus on investments. Likewise, the European improve their market share.5 Whether sustainability as a lever to create a Union Sustainable Finance Action it be social factors such as diversity, or more secure tomorrow: sustainably Plan has established new definitions environmental factors such as carbon invested assets globally grew 15% for sustainable and responsible usage, the data is plentiful to support over the past two years;2 36% of all investment embedded in legislation, the clear alignment of these historically professionally managed assets are accelerated by an international non-financial factors into a sound and now managed sustainably; and as at sustainability agenda that highlights defensible investment thesis. the start of 2020, total US domiciled the role of finance in effecting assets under management following meaningful change through global While seemingly obvious today, this sustainable investment strategies agreements like the Paris Agreement is the ah-ha moment. Thirty years had grown to $17.1 trillion, up from and the United Nations Sustainable ago – even just five years ago – it $12 trillion at the start of 2018.3 Development Goals. would have been incomprehensible Clearly, these are major forces at play that societal ambitions could be a key that are shaping global capital markets, RI encompasses many important component of successful fundamental influencing change and highlighting issues, one of which is diversity. research, containing quantifiable an industry in transition. This is another initiative that has sources of competitive advantage rightfully and powerfully taken centre for asset owners and managers. Likewise, public policy and regulatory stage with an emergence of research Such transformational shifts in capital developments further contribute to supporting better decision making allocation decisions occur so rarely the integration of societal initiatives by companies with diverse teams. in our industry that we must pause and capital allocation as topics such There is no shortage of data and reflect that we have arrived at as climate change become a more reflecting the simple truth that varied a new paradigm – that there exists significant focus in Washington, DC backgrounds, experiences and overall a new social purpose within asset and around the world. Here too, world views can help foster a management. In place of community organisations that can anticipate and approach that improves business service days and grants to worthy take action to improve items such as strategy. For example, Willis Towers causes (which are still great things sustainability and reporting ahead of Watson recently found that “investment to do!) we now talk about a fiduciary governmental policies can seize the teams with diversity, particularly ethnic responsibility to incorporate such opportunity to create and deepen diversity, tend to generate better insights as vital inputs into research material competitive advantages. excess returns”.4 Diverse environments processes, thereby enhancing the In the US, for example, sustainable have rightfully become sought after ability to identify companies best investing regulations are becoming for broader thinking and innovation; positioned to generate sustainable ever more intertwined with fiduciary inclusive cultures are seen as the long-term returns. responsibility as the Department of bedrock for creativity and forward

22 Responsible Investment Quarterly – Q2 2021

The social purpose of asset What can be easily overlooked in this many things, the way forward often management does not stop at argument, however, is that this social begins with the simple recognition integration of societal insights into purpose of asset management also that change occurs first from within, sound investment processes, however. does not stop outside of our own acknowledging small truths and setting When viewed as additive from a return glass houses. Ultimately, if we are to attainable goals towards meaningful generation perspective, it becomes be authentic in our conviction it is change, no matter what glass might clear that responsibility lies with equally our responsibility to hold that break along the way. For , that first asset managers not just to source mirror up to ourselves, to ensure that small step is celebrating the certain and incorporate these factors, but to we are on the same journey to live up truth that took this suburban Boston lead on advancing societal initiatives to the standards we are setting for baseball fan decades to verbalise: girls that we believe can enhance return the companies in which we invest. who like maths are, undoubtedly, cool. on investment, such as diversity or This means continuing to shine a environmental, social and governance light on the relevance of these critical issues. If we believe there is untapped factors until it is common practice to value creation to be found in these integrate such material considerations areas, it becomes our obligation as into every fibre of our culture. It means fiduciaries to help unlock it. advocating for environmental awareness of our own carbon usage, Further, it becomes necessary for us further bolstering the of to support regulation that strengthens our networks, publicly supporting the disclosure requirements of the regulatory regimes that demand companies in which we invest and transparency, understanding and to lead effective engagement and sharing our own data, and embracing stewardship programs to further true diversity among our teams. enhance client outcomes. While not Source: 1 Aon, New Aon paper outlines the benefits of ESG a given, many asset managers today Leading by example in this way can integration in investment, 19 March 2021. – Columbia Threadneedle included – quickly seem an overwhelming journey 2 Global Sustainable Investment Alliance, Global Sustainable Investment Review 2020. have begun to take a more focused with generations of complex factors 3 The US SIF Foundation’s Biennial “Trends Report” approach to engagement, emphasising to untangle; yet as fiduciaries, such Finds That Sustainable Investing Assets Reach $17.1 Trillion, US SIF, https://www.ussif.org/ direct dialogue with both companies self-directed social purpose must be blog_home.asp?Display=155 and policymakers on ESG issues that approached as an additional tool for 4 https://www.willistowerswatson.com/en-US/ Insights/2020/10/diversity-in-the-asset- have a material impact to sustainable enhanced long-term valuation, even management-industry long-term performance. if that value is our very own. Like so 5 Catalyst: The Center for Talent Innovation.

23 Responsible Investment Quarterly – Q2 2021

STEWARDSHIP IN ACTION

Our stewardship activities are The research and analysis and making voting decisions, integral to our investment process, emerging from this, and the we use a range of research allowing us to detect inflection ongoing engagement with sources and consider various ESG points and long-term trends, and companies, is disseminated globally issues, including companies’ risk influence companies’ standards throughout the firm as part of our management practices and around ESG risk management culture of research intensity and evidence of any controversies. and sustainable outcomes. helps us identify potential issues A key focus is to enhance our at an early stage. Our final voting decisions take investment research so that we account of research issued by can make informed capital In prioritising our engagement proxy advisory organisations such allocation decisions as active work, we focus our efforts on as ISS, IVIS and Glass Lewis, as investors. the more financially material or well as MSCI ESG Research. contentious issues and themes, Although we subscribe to proxy The ultimate goal of our and the issuers in which we have advisors’ research, votes are stewardship approach is to large holdings. There are many determined under our own custom enhance our understanding of risks companies with which we have voting policy. Within this, material and opportunities, strengthening ongoing engagements, as well as or controversial proposals receive our ability to deliver sustainable that we speak to on a enhanced due diligence and are long-term value for clients. more ad hoc basis, as concerns voted on by the investment team, In approaching these or issues arise. with support from the RI team. responsibilities we are mindful Votes are cast identically across of market trends; company, local We vote actively at company all mandates for which we have market and industry-specific meetings. We view this as one voting authority. All our voting issues; and relevant best-practice of the most effective ways to decisions are available for standards – but we will ultimately approval (or otherwise) inspection on our website seven be guided by what is in the best of a company’s governance, days after each company meeting long-term economic interests management, board and strategy, in EMEA/APAC, and are updated of our clients. or standards of operating practice. annually in September in the US. While analysing meeting agendas

24 Responsible Investment Quarterly – Q2 2021

07 Voting Q2

2500 2302

2000

1402 1500

1000

Between April and June 2021 we voted at 3,993 meetings We voted in 58 separate549 markets in the second quarter.

Number of meetings voted 389 500 899 249 330 228 across 58 global markets. This compares to 620 meetings Most meetings were voted114 in the United108 States121 141(2,212), 133 65 76 54 voted across 44 global markets in the previous quarter followed by Japan300 (389) and275 United197 Kingdom (228). 30 24 0 (Q1). Of the 3,993 meetings, 3,588 were annual general The majorityNorth of theEurope votingJapan items Asiathat weUnited did not LatinsupportEmerging America ex-UK Pacific Kingdom America Markets meetings, 181 combined annual/special, 201 special, throughout the quarter continueex-Japan to be related to directors, 13 court, nine proxy contests and one written consent followed by remuneration and other business-related Dissent from at least one item Support management on all items meeting. We cast at least one dissenting vote in 1,892 proposals. meetings (47%). Figure 2 Data: Proportion of dissenting votes Figure 1: Meetings voted by region per category

2500 2302 1% 1% 1% Directors 2000 7% Remuneration 9% 1402 1500 Other Business

4% Capitalisation 1000 Supporting Shareholder 549 Resolutions

Number of meetings voted 389 56% 500 899 249 330 228 114 108 121 141 Antitakeover 133 65 76 54 21% 300 275 197 30 24 0 Audit North Europe Japan Asia United Latin Emerging America ex-UK Pacific Kingdom America Markets Reorganisations and ex-Japan Mergers Dissent from at least one item Support management on all items Source: Columbia Threadneedle Investments, ISS ProxyExchange, 30 June 2021.

Source: Columbia Threadneedle Investments, ISS ProxyExchange, 30 June 2021.

1% 1% 1% Directors 7% Remuneration 9% Other Business

4% Capitalisation Supporting Shareholder Resolutions 56% 21% Antitakeover Audit Reorganisations and Mergers 25 Responsible Investment Quarterly – Q2 2021

08 Engagement highlights

Between April and June we engaged plc, , Case studies with 64 issuers,1 some on multiple Kingspan Group plc, Marel, occasions. Meetings with a Marlowe plc, MassMutual Global Although not all stewardship activities sustainability focus concern the impact Funding II, Group plc, are successful in driving change, of a company’s products and services, Natwest Group plc, New York Life engagement helps us learn more about while meetings with an ESG focus Insurance Company, Puma SE, – and in some cases influence – issuer concern how well companies manage Benckiser Group plc, plc, practices. The case studies overleaf their internal non-financial risks. Smith and Nephew plc, Totally plc, describe select company engagements Ubisoft Entertainment SA, plc, over the past quarter: Specific sustainability focus AG, plc, 1spatial plc, 10x Genomics Inc, Wood Group (John) plc. Albemarle Corp, Associated British plc, BT Group plc, Specific environmental focus Group plc, plc, Derwent CRH plc. London Reit plc, Equals Group plc, FDM Group Holdings plc, Ilika plc, Specific social focus Johnson Matthey plc, Just Group plc, Northrop Grumman Corporation, . Marel, Marlowe plc, National Express Specific governance focus Group plc, Natwest Group plc, Puma SE, Reckitt Benckiser Group plc, AGCO Corp, AIA Group ltd, APPlus Rentokil Initial plc, Totally plc, Services SA, plc, Avery Unilever plc, Volkswagen AG, Volution Dennison Corporation, BT Group plc, Group plc, Zalando SE. plc, Elis SA, Eurofins Scientific SE, Exxon Mobil Environmental, social and Corporation, Fuller Smith and Turner plc, governance discussions Howmet Aerospace Inc, plc, 1spatial plc, 10x Genomics Inc, Irish Continental Group plc, Kingspan plc, Group plc, Lair Liquide SA, Lincoln plc, National Corporation, Morrison (WM) BT Group plc, Burberry Group plc, Supermarkets plc, Orpea, Palo Alto plc, Coats Group plc, Networks, Piper Sandler, Rentokil Reit plc, Eastman Initial plc, Sherborne Investors, Chemical, Endo Pharmaceuticals, Stagecoach Group plc, Thule Group AB, Varta AG, VZ Holding AG, Worldline SA. Equals Group plc, Intermediate Capital 1 The mention of specific stocks should not be taken Group plc, FDM Group Holdings plc, as a recommendation to deal.

26 Responsible Investment Quarterly – Q2 2021

Company Albemarle Corp Location and sector USA, Industrials Topics Climate change Why did we engage? We met the company as part of our thematic engagement with miners where we researched and observed lagging practices presenting material risk, but where we see significant commercial opportunity for products that solve global environmental issues. In this instance the engagement followed an earlier meeting where we requested the company set and disclose greenhouse gas (GHG) and water targets. How did we engage? We met with the CFO and senior members of management in a video call coordinated by the RI team, a fundamental equity analyst and six members of teams which own the stock. What did we learn? While the company produces lithium and other products key to a low-carbon future, with urging from Columbia Threadneedle has it recently developed its own ESG risk-management program. The company has set a 2050 net zero target, for which management will develop interim targets and investment plans next year. Water usage concerns in Chile and Jordan persist, where the target is a 25% reduction by 2030 from investments, and the company acknowledges the need for proactive community and regulator outreach plans to educate on absolute and relative usage, recycling and alternatives. What was the outcome? While the company disclosed GHG and water reduction targets, and significantly enhanced disclosures in many areas, we reiterated our call for a CDP (Carbon Disclosure Project) and TCFD (Task Force on Climate-related Financial Disclosures) report, and also requested the company consider adopting non safety-related performance metrics in executive incentive programs to drive behaviours and demonstrate commitment to sustainability.

Company Exxon Mobil Corp Location and sector USA, Energy Topics Climate change Why did we engage? An activist campaign seeking to change the company’s business strategy and increase focus on a low-carbon future included a proposal to seat four nominees in a contested election of directors. Engagement deepened our understanding of the case for change. How did we engage? As part of our due diligence we met by video conference with the dissident-nominated directors and separately with management to assess the rationale and necessity for change. The RI team organised and led the calls, each of which included more than 10 participants, plus equity and credit fundamental analysts. What did we learn? The company’s continued commitment to a carbon-first strategy in an increasingly low-carbon world contributed to lagging performance, higher debt levels and poor capital allocation decisions. The board’s clear lack of conventional and energy transition experience seemingly facilitated this approach and put the company’s long-term success at risk. Fresh oversight and experience was deemed necessary to oversee a multi-year course correction, and the dissident nominees would bring the right experiences and pragmatic thinking to the board. What was the outcome? We voted in support of all four dissident director nominees on the basis that critical strategic changes can only be facilitated through additional energy-focused perspectives on the board. A majority of investors supported three of the four dissident nominees and supplanted an equal number of incumbent directors on the company’s board, thus materially remaking the board’s composition and positioning the company for a new future.

27 Responsible Investment Quarterly – Q2 2021

Company Howmet Aerospace, Inc Location and sector USA, Industrials Topics Corporate governance Why did we engage? A compensation program that had paid significant sums to the CEO together with a material diminution of incentive targets drove us to seek an explanation for the changes and better understand the nature of the outsized compensation package. How did we engage? The RI team organised and conducted two meetings by video call alongside our fundamental analyst, first with management then subsequently with the board’s compensation committee chair and the company secretary. What did we learn? The board hired the present CEO, desperate for stability and results following several successive and ineffective CEOs in a short timeframe. The new CEO impressed and negotiated substantial equity awards – $120 million in three years. While investors benefitted from his leadership, the rewards were many multiples of the peer median and incentive targets were lowered and performance periods shortened during the pandemic. It became clear the board lost control over pay negotiations and feared the 67-year-old CEO was a flight risk. What was the outcome? We expressed our concerns to management and the board and voted against the compensation proposal, which failed to receive majority support, and voted against the compensation committee chair for lack of proactive investor consultation.

Company Tesco Plc Location and sector United Kingdom, Retail Topics Nutrition, alternative proteins Why did we engage? We wanted to better understand the company’s sustainability strategy, specifically relating to nutrition and plant-based proteins. How did we engage? Members of the RI team joined the company’s investor roundtable discussion with the Group Quality Director. What did we learn? Tesco has set new goals for the proportion of sales that are healthy, alongside plant-based protein sales goals. This is a step up in focus on consumer health and based on current disclosures appears ambitious relative to peers, which may position the company well as the UK’s obesity strategy is implemented and as consumer trends evolve post-pandemic. The underlying strategy appears to be based on extensive customer research and is segmented by customer profile. What was the outcome? We gained comfort in the company’s revamped approach to health, nutrition and product reformulation.

28 Responsible Investment Quarterly – Q2 2021

Company Volkswagen AG Location and sector Germany, Automobiles Topics Corporate governance, sustainability Why did we engage? We engaged as part of our broader ESG risk assessment of the company, where our research showed leading practices in certain areas but significant and risky gaps in others. How did we engage? Equity and credit fundamental analysts, the RI team and portfolio managers met with the Investor Relations team. What did we learn? The company has a unique ownership structure with around 90% of voting rights owned by three main shareholders. This makes it extremely hard for minority shareholders to affect change. Therefore, through engagement we were able to explain our concerns and hear the company’s rebuttal. Despite the challenging governance, Volkswagen continues to be at the forefront of all regulatory changes and lead the charge in the transition to electric vehicles. What was the outcome? We gained comfort in the company’s ESG and sustainability credentials and believe its products will be crucial for a successful energy transition. We will continue to engage with the company as it attempts to quantify the positive climate impact of its products for the end user.

Company Zalando SE Location and sector Germany, & Direct Marketing Retail Topics Circular economy, sustainability Why did we engage? We wanted to better understand the company’s sustainability strategy. How did we engage? The European equities team held a virtual meeting with the Investor Relations team. What did we learn? Zalando have a goal of extending the life of 50 million items of clothing by 2023. They are aiming to achieve this through two main initiatives: the Zircle app launched in 2019, which connects customers with each other and with Zalando to enable the resale of items; and a pre-owned category on its platform. This encourages customers to return clothes in exchange for rewards. Zalando then sells these items on its platform. What was the outcome? We gained comfort in the company’s ESG and sustainability credentials. We will continue to engage and monitor progress as the company attempts to quantify the positive impact of its products.

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