The Investing Enlightenment

How Principle and Pragmatism Can Create Sustainable Value through ESG

Robert G. Eccles, Ph.D. Mirtha D. Kastrapeli USING REASON FOR A BETTER WORLD

In 1768, during the period we know as the Enlightenment, the Deputy Postmaster General of the American colonies had a perplexing problem.

He wanted to know why British ships took so much longer to cross the Atlantic to the colonies than did ships from the colonies traveling back to Britain — a difference that sometimes amounted to weeks.1

The young Deputy Postmaster was puzzled, so he asked a Nantucket Island whaling captain if he had an explanation. The captain’s answer not only explained those phenomena, it also explained why there were palm trees native to…Ireland.2

The captain told him about something the sailors called the “Gulf Stream,” a warm-water “river in the ocean” that could propel a ship forward — or backward — depending on the ship’s position within it. While this information is familiar to us today, at the time it was unknown to all but those who made their living on the sea.

2 THE INVESTING ENLIGHTENMENT But what was this Gulf Stream? Where was it? And how could the Postmaster use it to the colonies’ advantage?

principle

1 pragmatism

2 THE INVESTING ENLIGHTENMENT With the help of the ship captain, the postal clerk began to assemble all the data he could find from various mariners to attempt to map out the physical location and direction of the Gulf Stream.

He published his Gulf Stream chart two years later.

PRACTICAL UNDERSTANDING RESOLUTION DATA

Unfortunately for the British, they ignored these charts. During one decisive battle of the Revolutionary War, the colonists received critical supplies and reinforcements from their French allies, while General Cornwallis and the British army got theirs…five days after they had to surrender.

Two things make this story especially compelling. The first is the inherent curiosity of this Deputy Postmaster, the famously inquisitive Benjamin Franklin. The second is that Franklin’s scientific interest was inspired and enabled by the Age of Enlightenment, an intellectual movement of the 17th and 18th centuries.

A hallmark of the Enlightenment was a combination of principle and pragmatism. Principle is the idea of a better world, and pragmatism is the resolution to achieve that idea using reason. Franklin had an idea — to find a better way — and a resolution for how to get there: a “river in the ocean.”

But, he needed data, and that data was not necessarily readily available. However, Franklin’s tenacity and adherence to science — another product of Enlightenment thinking — led him to obtain and organize whatever data he could find. As a result, he created a practical understanding of this powerful force of nature where before there were only doubts.

The Age of Enlightenment was filled with discoveries like this one — discoveries that “offered certainties in a world of doubts.”3

In many ways, we are in a similar period of time when it comes to the current transformation of how we invest. Innovations within the investment industry are providing an opportunity, a new method of reasoning that could help solve some of society’s most pressing issues.

3 HOW CAN WE CREATE SUSTAINABLE VALUE?

582 institutional investors 750 individual investors

25 interviews

4 THE INVESTING ENLIGHTENMENT COMBINING PRINCIPLE AND PRAGMATISM TO IMPROVE RETURNS

There are significant challenges in our world today, ranging from deep income inequality to climate change. There are also advances in understanding and analysis that allow us to take a pragmatic approach to a critical but seemingly elusive question: How can we leverage the capital markets to improve not just risk-adjusted returns, but our society as a whole? In other words, how can we create sustainable value?

The most significant of these developments Based on the results of this survey, revolves around how we incorporate and extensive secondary research, environmental, social and governance we will outline a holistic model for (ESG) factors into business and investment integrating ESG considerations into decisions, what is commonly referred to as investment decisions. “ESG integration,” a type of ESG investing. The goal with this research is to provide To answer this question, we conducted a pragmatic approach to ESG integration a global survey of almost 600 institu- that delivers on the principle of tional investors who are or are planning sustainable value creation through to implement ESG into their investment risk-adjusted returns. A way to find, process. This group is obviously not and chart, our own Gulf Stream. representative of all institutional investors; rather, they are on the vanguard of From Values to Value: ESG investing. We also surveyed The Rise of ESG Integration 750 individual investors, including both ESG and non-ESG investors. We also The focus on ESG as a means to conducted 25 interviews with executives sustainable value creation is on in our industry. (See Methodology the rise. When it was formed in 2006, Appendix for more information.) the United Nations-backed Principles for Responsible Investment (PRI), a global investor initiative and “the world’s leading proponent of responsible investment,”4 included 100 signatories with $6.5 trillion in assets under management (AUM).5

5 As of the end of 2016, there were Three pivotal elements created the 1,600 signatories representing foundation for this growth. First, on the $62 trillion in AUM.6 That represents policy side, changes in directives (such a 16- and tenfold increase, as the 2015 US Department of Labor respectively, in just 10 years. ruling on ESG in Employee Retirement Income Security Act (ERISA) plans) A recent study by the US SIF Forum reduced the limitations on pension for Sustainable and Responsible funds looking to incorporate ESG issues Investment estimates $8.72 trillion in their process.11 Also important is the of ESG investments7 in the US alone, EU Non-Financial Reporting Directive, up 33% from 2014. ESG investing now which requires 6,000 companies to represents about 20% of total assets report ESG information on an annual under professional management in the basis beginning in 2017.12 US.8 The Global Sustainable Investment Association (GSIA) estimates the size Second, on the academic front, a growing of the global sustainable investment number of empirical studies show a market at $21.4 trillion at the beginning positive relationship between ESG factors of 2014, up from $13.3 trillion in 2012.9 and corporate financial performance,13 supporting the premise that ESG can ESG investing and interest, both globally improve financial returns for companies. and domestically, are on an upward trend. Additionally, ESG factors are also seen as signaling tools for volatility and risk.10

1,600 PRI signatories

$62 trillion represented in AUM as of end of 2016

6 THE INVESTING ENLIGHTENMENT Third, the industry has made substan- the industry’s tireless search for tial efforts to develop much-needed better risk and return opportunities standards for companies to measure in a highly competitive environment. and report on ESG performance However, there are several (e.g., the formation of the Sustainability misconceptions we need to Accounting Standards Board, SASB, overcome before we can truly begin in 2011,14 and the formation of the to realize the potential benefits of International Integrated Reporting integrating ESG factors into the Council, IIRC, in 2010).15 Together these investment decision-making process. developments are a response to structural demographic and societal The good news? Traditional changes, important innovations in data barriers for ESG investors are and analytics, and, most importantly, becoming less pronounced.

The three most commonly perceived barriers to ESG investing are

A perception Because of that perceived Investors’ performance that ESG loss of financial returns, expectations are too integration fiduciary duty of fund short-term to fully obtain means sacrificing trustees precludes the positive effects financial returns ESG investment of ESG performance

7 From Faith to Facts: a third of respondents (29%) saw Overcoming Misconceptions of ESG concerns of underperformance as a Although these barriers haven’t barrier to adopting ESG investments. completely disappeared, one of the first As perceptions change surrounding ESG, surprises in our research found they are there may also be a shift in the fiduciary much lower than is commonly believed. obligations to integrate ESG criteria.

Misconception #1: Misconception #2: ESG Integration Fiduciary Duty Means Sacrificing Precludes ESG Financial Returns Integration Despite the fact that the many academic For many years, the prevailing view was studies on this are essentially neutral, that fund fiduciaries could not take ESG the belief that ESG integration means issues into account because their role is sacrificing financial returns is the most to maximize the returns of beneficiaries. common theme among those who Recently, however, the US Department object to ESG investing.16 In the 2015 of Labor’s Employee Benefits PRI joint study with Cerulli Associates, Administration issued an interpretive “misperceptions of negative impact of bulletin regarding ERISA guidelines investment performance” was noted that clearly states fund fiduciaries as a major challenge by 60% and can take ESG criteria into account.19 a moderate challenge by 28%.17 Indeed, within the past two years the Fact: PRI has published several studies20 Just one-third of institutional that suggest it’s a failure of fiduciary duty 35% investors thought incorporating ESG factors would mean not to take ESG criteria into account.21 missing returns. Fact: However, in our survey, we asked, Only a small percentage “Do you believe incorporating ESG factors 10% of institutional investors necessarily means missing out on see fiduciary duty of fund potential returns in your portfolio?” trustees as a barrier. Only a third (35%) of institutional In our survey of institutional investors, investors agreed. One-half disagreed. only 10% see regulations on or general counsel’s interpretation of fiduciary In the case of individual investors, duty as a barrier to ESG integration. the percentages were the same: Furthermore, 40% of asset owners again, only a third (35%) believe and 51% of asset managers agree or ESG investment means sacrificing returns.18 What’s more, less than

8 THE INVESTING ENLIGHTENMENT “We are strongly agree that the concept of outperformance from ESG, 75% of investing fiduciary duty is shifting toward encour- institutional investors said they expect aging or even requiring ESG integration. outperformance in three years or more, for the long and 45% said five years or more. term and At the same time, 40% of respondents either agree or strongly agree that their Fact: therefore ESG board supports ESG implementation. The majority of investors % is a natural Only 22% disagree or strongly disagree. 59 see long-term gains as being more important place for us.” But are investors patient enough to realize than short-term ones.

EXECUTIVE AT those benefits? In certain ways, yes. In the case of retail investors, this number was lower — at 42% — LARGE ASSET Misconception #3: yet there’s still reason for optimism. OWNER IN CANADA Performance Expectations Are Too Short-Term Far more individual investors view for ESG Integration achieving long-term (more than three years) gains as very important or The same studies that show a important (59%), compared to only positive relationship between 34% who value short-term market ESG factors and corporate financial outperformance (less than one year). performance also show that the potential financial benefits from ESG So how are investors implementing ESG? take time to be realized — typically The answers are varied and need 22 in the range of six or seven years. further exploration to understand how ESG can deliver sustainable value. Yet contrary to what many expect, institutional respondents in our survey showed they are realistic about the time frames required to see the benefits of ESG integration on investment performance. When asked about the time frames for achieving

9 THE EDGE OF ENLIGHTENMENT: THE CURRENT STATE OF ESG STRATEGIES

In our survey, we asked respondents which strategies they were using to take advantage of these shifting tides (see Figures 1 and 2 for institutional and retail, respectively). Exclusionary or negative screening (a type of values-based investment) is the most popular strategy, used by 47% of respondents, both institutional and retail.

Figure 1: Choices of ESG Investing Strategies by Institutional Investors (respondents could select more than one option therefore percentages don’t add to 100%)

Exclusionary Screening or 47% Values-Based Exclusions 37% Best-In-Class Selection

29% Thematic Investing

21% Full ESG Integration

21% Active Ownership

21% Impact Investing

Figure 2: Choices of ESG Investing Strategy by Retail Investors

Exclusionary Screening or 47% Values-Based Exclusions 37% Best-In-Class Selection

16% Impact Investing

10 THE INVESTING ENLIGHTENMENT ESG Investment Strategies

ESG Integration: Driving the Investment Enlightenment

The CFA Institute defines ESG investing in six ways: exclusionary screening or negative screening, impact investing, best-in-class selection, thematic investing, dfull ESG integration and active ownership.23 We used this classification in our survey. The CFA Institute also notes that these methods are not mutually exclusive and are often used in combinations by both value- and values-motivated investors, as described below. Values-based investors are those making an investment decision based on their moral values and beliefs while value-based investors are motivated by an economic gain.

VALUES-BASED INVESTMENT ENGAGEMENT Exclusionary or Negative Screening: Active Ownership: Entering into a Avoiding securities on the basis of dialogue with companies on ESG issues traditional moral values, standards and and exercising both ownership rights and norms. This type of strategy is the oldest voice to effect change. and most popular type of ESG investing. In our study we focus on full ESG integration, Faith-based finance is an example of this as we believe this type of value-based type of strategy. strategy has the potential for better risk- Impact Investing: Investing with the adjusted opportunities and sustainable disclosed intention to generate and measure value creation. This is the type of social and environmental benefits alongside investment that can marry principle a financial return. It’s also considered a type and pragmatism, characteristic of the of values-based investment, even though a Investing Enlightenment. financial gain is expected from this strategy.

VALUE-BASED INVESTMENT Best-In-Class Selection: Preferring companies with better or improving ESG performance relative to sector peers.

Thematic Investing: Investing that’s based on trends or structural shifts, such as social, industrial and demographic trends, including clean tech, green real estate, water security, etc.

Full ESG Integration: Investing with a systematic and explicit inclusion of ESG risks and opportunities in investment analysis.

11 As is common in a time of transition — institutional investors (Figure 3). as it was during the Enlightenment — Also, nearly half (48%) cited helping the most popular solutions are to foster better investment practices. not always the most effective. Significantly, these motivations for Indeed, only full ESG integration has ESG integration are market-driven, the potential to deliver on the goal with 38% citing demand from benefi- of sustainable value creation for all ciaries and 35% pointing to initiatives by investors…but only 21% of institutional executives. Only 18% say their interest is respondents use it, either alone or in driven by regulatory requirements and combination with other strategies.24 10% say peer pressure is most relevant.

And yet, investors see full ESG But if full ESG integration produces integration as having a variety of benefits. these results, why isn’t it the dominant Chief among them is ESG integration’s strategy? It all starts with data. role in fostering a long-term investment mindset, cited by two-thirds (62%) of

Figure 3: Reasons for ESG Investing (Institutional) (respondents could select more than one option therefore percentages don’t add to 100%)

Helps to foster a long-term 62% investment mindset

Helps to cultivate better 48% investment practices

38% Demand from beneficiaries

Personal beliefs of senior leadership 35% or investment committee

18% Regulatory requirements

10% Following example of peers

62% believe ESG integration helps to foster a long-term investment mindset

12 THE INVESTING ENLIGHTENMENT Figure 4: Barriers to ESG Integration (respondents could select more than one option Institutional therefore percentages don’t add to 100%) Retail

60%

53%

46% 47% 46% 39% 38% 34% 29% 21%

Lack of Lack of ESG Concerns Lack of Cost standards for performance about under- ESG data associated measuring ESG data reported performance from other with ESG performance by companies of ESG investments sources integration

Materiality, Misunderstanding, Which data? Our survey noted lack and the Dearth of Quality ESG Data of data on ESG or sustainability Investors rely on a wide range of performance reported by companies high-quality financial data to make (53% of institutional and 46% retail), their investment decisions. However, lack of ESG data from other sources our research shows that the primary (38% institutional and 46% retail), barrier to ESG integration is the lack and lack of standards for measuring of standardized, high-quality ESG ESG performance (60% institutional data to incorporate in their investment and 39% retail) as the dominant decision-making process. Much like concerns. Over 80% of respondents Ben Franklin couldn’t reliably exploit agree or strongly agree that there is the benefits of the Gulf Stream a lack of standards around ESG without access to detailed information, integration. Less important, although 80% the promise of ESG integration can’t still relevant, are concerns about the be realized without the proper data. costs associated with ESG integration, of respondents agree noted by 34% of institutional investors or strongly agree there is a lack of standards and 21% of retail investors. (See Figure 4) around ESG integration

13 The casualties of this lack of data Even if a company is producing a are many. One of the most critical, sustainability report — and more and however, is a point of view on materiality. more are doing so26 — it’s difficult A piece of information is material if it is for investors to find hard numbers likely to affect financial performance. on what ESG issues the company After all, while stakeholders care about regards as important for shareholders a wide variety of ESG issues, not all the versus stakeholders. Toward that end, issues are critical for value creation. a remarkable 92% of investors want companies to identify and report on Materiality the material ESG issues they believe Research shows that companies that affect financial performance. perform well on these material ESG This lack of data contributes directly to issues have higher financial perfor- the high level of misunderstanding that mance than those that perform poorly persists about ESG strategies in general on them.In fact, the companies that and, in particular, about ESG integration. perform well on material issues, and poorly on all the rest, have the best financial performance.25

Yet one of the central issues in ESG investing is getting information on the small subset of material ESG issues that affect financial performance (though SASB is focused on improving this).

38% of retail investors learned about ESG investing from their financial advisor 92% want companies to identify and report on the material ESG issues they believe affect financial performance

14 THE INVESTING ENLIGHTENMENT Misunderstanding Our research suggests that advisors Without data on material issues, should expect an increasing number of it’s impossible to have the knowledge their clients will be contacting them about and understanding necessary to make, ESG investing. If advisors want to be able and advise on, investment decisions. to respond to that interest, they need to have the requisite knowledge to do so. In the case of individual investors, our industry is falling behind in In this last point lies the key to unlocking providing knowledge on this topic. the potential of fully integrated ESG: When we asked retail investors how the role of the investors themselves. they learned about ESG investing, only about a third (38%) said from their financial advisor. The vast majority (83%) answered that their knowledge came from their own research or family and friends.

If advisors want to be able to respond to interest surrounding ESG investing, they need to have the requisite knowledge to do so.

15 50% of retail investors want their advisor to communicate more HOW DO about ESG investing WE CHART THE COURSE?

16 THE INVESTING ENLIGHTENMENT INVESTORS: ENABLING ENLIGHTENMENT

Our research shows the critical role that investment organizations and financial advisors play in ESG investing.

“You need to In the case of advisors, this can be What does all of this mean? To imple- ask yourself: seen by comparing the results of ment full ESG integration, investors “ESG investors” vs. “non-ESG and investors’ advisors need to take Are you doing investors.” Whereas 47% of ESG responsibility for making it happen. ESG integration investors think that recommendations The question remains, of course, how? of their financial advisor are important because you Like Franklin, we need to chart a course or very important to integrating ESG are mandated that puts principle and pragmatism — in investment decisions, only 19% of sustainable value and data-enabled to do so or non-ESG investors feel the same way. because you integration — at the core of investing. This could be because 55% of ESG We need to build on the innovations in believe in it? users have been approached by data and methods that set the stage Success will their advisors about ESG investing for the Investing Enlightenment. in the past 12 months, compared depend on Our research shows us how…and it with only 22% of non-ESG investors. this answer.” begins with a new model for investing. Advisors can help their clients start SENIOR EXECUTIVE thinking about ESG investing.

AT GLOBAL ASSET Supporting this assertion, about one-half MANAGEMENT of each group (49% for ESG investors ORGANIZATION and 51% for non-ESG investors) agree or strongly agree that they want their advisor to communicate more about ESG investing (vs. 7% and 12% of ESG and non-ESG investors, respectively, who disagree or strongly disagree).

17 Figure 5: The Effective Adoption of ESG Integration

Take Ownership Walk the talk • Decisive support from investment organization’s C-suite and board on ESG issues • Individual investors’ alignment of portfolio decisions to what they believe is important

To get the data and Make ESG part of the solutions you need investment lexicon Get Ask • Engagement with companies • Training on ESG across Educated • Industry participation the investment organization • Communication • Financial advisors education

Investment decisions Performance metrics and should be based incentives structure need on the material to reflect the long-term Incorporate ESG issues nature of ESG investing Align Time Materiality Filter • Get the board’s perspective • Lengthen time frames for Horizons • Sector portfolio performance evaluation managers and analysts • Lengthen time frames for should decide compensation decisions

Investing Enlightenment

18 THE INVESTING ENLIGHTENMENT Elements of the Investing ensuring a company-wide adoption of Enlightenment: A New Model ESG principles, establishing guidelines Based on our research, we propose for engagement with portfolio companies, implementing a simple five-element and supporting industry initiatives. model (Figure 5). Even though our institutional sample It begins with being accountable, was focused on investors who are for getting educated, and asking for the already practicing or planning to information you need. Getting educated practice ESG investing, 30% cited leads to the necessary capabilities and explicit support from senior manage- models for ESG integration, which must ment as a way to overcome barriers be supported by the appropriate time to ESG integration (Figure 6). frames. Asking leads to the availability The importance of top-level ownership, of data and solutions once a material- especially from the CEO and CIO, ity filter has been incorporated. These would obviously be higher where five elements will bring the Investing such senior leadership support Enlightenment to our industry. doesn’t exist. And while getting explicit support from fund fiduciaries Take Ownership was relatively unimportant (16%), this would also be more important when In the case of institutional investors, fund fiduciaries are sitting on the fence like all important initiatives, top manage- or even opposed to ESG integration. ment and board support are essential. Taking ownership comes in the form of

Figure 6: Reducing the Barriers to ESG Integration (respondents could select more than one option therefore percentages don’t add to 100%)

Provide training on ESG to sector 34% portfolio managers and analysts Lengthen time frames for 30% evaluating performance

30% Explicit support from senior leadership

23% Increase headcount in ESG expertise

Align performance incentives to support 18% integrating ESG factors into investment decisions

16% Explicit support from fund fiduciaries

15% Hire external ESG consultants

15% Add more ESG data vendors

19 We suggest that senior management and the board should each publish a Get Educated public declaration in support of ESG integration, briefly explaining why For institutional investors, more efforts and how it will be implemented. need to be put in place to increase the knowledge about these types of strat- In the case of individual investors, egies beyond ESG specialists. Full ESG they need to be clear about how they’re integration cannot be done when there is taking ESG factors into account in their a sharp dividing line between the sector investment decisions. According to our portfolio managers and analysts who research, 50% of ESG investors say are only held responsible for financial that climate change is factored into analysis, and a separate (and usually their investment decision process in small) group of ESG analysts who handle a significant or very significant way. proxy voting and attempt to influence For income equality and gender the decisions of the sector specialists. inequality that number was 42% in both cases. If these issues are important ESG integration requires a strong for individual investors, they can use degree of internalization of ESG factors their portfolio allocation decisions to by the sector specialists and building address these concerns, while at the the necessary expertise in them to do so. same time targeting the achievement of In other words, ESG should become part their long-term investment objectives.27 of the investment organization’s DNA.

This action requires, of course, The most common practice for reducing additional familiarity with ESG integration barriers to ESG integration is providing and all of its elements and impacts. training on ESG to portfolio managers and analysts across the organization. In our interviews with institutional investors who are at advanced stages of ESG integration, we found that integrating ESG analysis into financial analysis was the most fundamental step. Often this involved training, with the ultimate goal 50% of making sector portfolio managers of ESG investors say climate and analysts responsible for determining change is factored into their what they believe are the material investment decision process ESG factors and how they may affect financial performance.28 Training also needs to be extended to financial advisors, given they play a key role in

20 THE INVESTING ENLIGHTENMENT educating and coaching individual time frames for investors’ expectations investors. We’ll discuss this in more about when ESG will deliver outperfor- detail in the Communication section. mance. Whereas 47% of asset owners and 43% of asset managers However, building these capabilities believe this to be five years or more, across the organization is a necess- only 10%–20% use these time frames ary but not sufficient condition for in evaluating investment performance. full ESG integration. Changes to the investment process will not be Figure 8 shows that investors’ time successful if time horizons around horizons are longer than the ones performance metrics and incentives they use for performance evaluation are not adjusted accordingly. and that asset owners are more long- term oriented than asset managers. The investment time horizons of asset Aligning Time Frames owners are more closely matched to time frames for getting outperformance from As we’ve shown, realizing the ESG than are those for asset managers. financial benefits of ESG integration is a long-term endeavor. Our current Whereas 37% of asset owners have performance metrics, however, are not. investment time horizons of 10 years or more, this is true for only 11% of asset Figure 7 on the next page shows the time managers. An even greater misalign- frames asset owners use to evaluate ment is how time frames are used for external managers and internal portfolio determining compensation (Figure 9). managers, and the time frames used The dominant practice (70%) is to make by asset managers to evaluate internal annual compensation decisions, with portfolio managers and sub-managers. 13% doing so quarterly or semi-annually These time frames are shorter than the and 17% doing it every two years or more.

“Our client base has drastically evolved. Now more people want to align their investments with their mission, in a more thoughtful way than exclusionary screening.”

SENIOR EXECUTIVE AT MID-SIZE ASSET MANAGEMENT FIRM IN THE US

21 Figure 7: Figure 7 (continued): Time Frame to Measure Investment Performance Time Frame to Measure Investment Performance 44% 41% Asset Owner / External Manager 39% Asset Owner / External Manager Asset Owner / Internal Portfolio Manager 37% Asset Owner / Internal Portfolio Manager 35% Asset Manager / Portfolio Manager Asset Manager / Portfolio Manager Asset Manager / Sub-Manager Asset Manager / Sub-Manager 28% 29% 25%

20% 19%

12% 12% 12%

7% 5% 4% 5% 5% 3% 2% 3% 2% 1% 1% 1% 1% 2% 2%

1 to 6 6 months 1 to 3 to 5 to 7 to More than months to 1 year 3 years 5 years 7 years 10 years 10 years

37%

34% Figure 8: Figure 8 (continued): Investment Time Horizon Investment Time Horizon

Asset Owner 26% Asset Owner Asset Manager Asset Manager 22%

16% 15% 11% 12% 11% 10% 8% 1% 2% 3%

22 THE INVESTING ENLIGHTENMENT Figure 7: Figure 7 (continued): Time Frame to Measure Investment Performance Time Frame to Measure Investment Performance 44% 41% Asset Owner / External Manager 39% Asset Owner / External Manager Asset Owner / Internal Portfolio Manager 37% Asset Owner / Internal Portfolio Manager 35% Asset Manager / Portfolio Manager Asset Manager / Portfolio Manager Asset Manager / Sub-Manager Asset Manager / Sub-Manager 28% 29% 25%

20% 19%

12% 12% 12%

7% 5% 4% 5% 5% 3% 2% 3% 2% 1% 1% 1% 1% 2% 2%

1 to 6 6 months 1 to 3 to 5 to 7 to More than months to 1 year 3 years 5 years 7 years 10 years 10 years

37%

34% Figure 8: Figure 8 (continued): Investment Time Horizon Investment Time Horizon

Asset Owner 26% Asset Owner Asset Manager Asset Manager 22%

16% 15% 11% 12% 11% 10% 8% 1% 2% 3%

23 17% do so for performance 70% of two years or more of institutional investors link compensation to annual performance

5% 8%

Figure 9: Institutional Investors’ Time Frames for Awarding Compensation 17%

Annually Two years or more Semi-annually Quarterly 70%

Yet as we demonstrated in our 2014 Investor Initiative, where CEOs present- study The Folklore of Finance, capital ed long-term plans to a live audience markets are notoriously short-term on February 27, 2017.32 A third is the oriented, as companies go from one Coalition for Inclusive Capitalism.33 quarterly conference call to the next.29 For ESG integration efforts to be There are several initiatives involving successful, we must extend both the corporate and investment performance measurement time community that are addressing this frames to more closely match issue and attempting to lengthen investment horizons. the time frame of decision-making As we’ve shown throughout, that for both.30 One example of this is the effort can and will be driven by data… Focusing Capital on the Long-Term but only if investors ask for it. initiative.31 Another is CECP’s Strategic

24 THE INVESTING ENLIGHTENMENT “Investors need to We recognize that the amount of Ask continue to act resources that can be devoted to engagement are a function of the collaboratively Asking has three components: investor’s size, and so smaller firms when it comes need to be very targeted in their • Engagement: Instilling the practice of efforts and/or work with groups who to company investors regularly asking companies represent groups of investors.35 engagement for the material ESG data they need. What’s more, in the case of asset and requests • Industry participation: Asking other owners, engagement can also come in for disclosure, stakeholders to support key initiatives the form of asking their asset manager for the advancement of the standard- about their engagement activities. to ensure a ization of ESG measurement and unified investor performance data. Industry participation

voice and • Communication: Making sure Investors need to participate in and [to ensure that] individual investors ask their support industry initiatives and other companies aren’t financial advisors for information actions to facilitate ESG integration. about products and solutions in An important area concerns data inundated with line with what matters to them. standards and reporting requirements. disclosure Engagement Regulations requiring ESG reporting requests.” by companies were cited by 42% of Engagement is about meeting institutional investors as a way of SENIOR EXECUTIVE with management and the board removing the barriers to ESG integration. AT ASSET OWNER (which over half of asset managers Related to this, around 78% agree or ORGANIZATION and 40% of asset owners do) and asking strongly agree that the regulatory push IN AUSTRALIA for ESG disclosures (done by two-thirds toward more ESG disclosure will of investors). Through engagement, facilitate better integration of ESG factors, investors can determine which ESG and slightly more (85%) cited the evolution issues the company believes are material of sustainability reporting standards. and can influence these issues through discussion and even proxy voting. When investors engage and participate in industry initiatives, higher-quality data Engagement is a way of breaking the on ESG performance, so desperately finger-pointing of companies complain- needed, will follow. Our research also ing that investors don’t give them credit shows that 41% percent of asset owners for ESG performance, while investors and 29% of asset managers felt that big say that companies don’t give them data could help address the data problem. the information they need to do so.34 Engagement is a major resource Investors should explore the offerings of commitment, so again leadership different data vendors (both general and support is necessary. specialized), including some new capabilities coming to market based on new

25 technologies (natural language process- Not surprisingly, more ESG investors ing, artificial intelligence, and machine (62%) plan to approach their advisor learning), and determine which ones about ESG investing in the next best meet their needs. While a specialist 12 months than non-ESG investors (43%). ESG group can do the background work, But this shows interest in ESG investing sector portfolio managers and analysts even by those not currently practicing it. need to take ultimate responsibility for Further supporting the level of interest this decision. in this group is the fact that nearly one-half (49%) of non-ESG investors Echoing the desire for greater believe talking to their advisor about standardization in ESG data, 40% of ESG investing would be useful. institutional investors said that greater This suggests that there’s an opportunity uniformity among ESG data providers for advisors who are willing to start the would be useful. conversation. The fact that 69% of ESG While investors can’t mandate any of investors also have this view further these things to happen, they can help suggests that major client opportunities to bring them about. Strong empirical exist with ESG investors if financial data, in the form of actual performance advisors have the requisite knowledge. of ESG integration funds and studies Futhermore, open communication by the academic community, will help with their financial advisors about their make the case for ESG integration interest in ESG as part of a long-term and put to rest the myth that incor- investment strategy should also result porating ESG factors is detrimental in adjustments to the products and to investment performance. solutions presented to the investor.

Communication Financial advisors should be prepared with concrete solutions for these Financial advisors can, and must, investors, which are only set to grow. help their clients start thinking about In fact, more than half of retail investors ESG investing. Of course, commu- say ESG factors will be increasingly nication is a two-way street; there’s important to them in the next five years. always the question of who starts the conversation: the advisor or the client.

62% of ESG investors plan to approach their advisor about ESG investing in the next 12 months

26 THE INVESTING ENLIGHTENMENT As we’ve previously noted, data is the ESG factors are material for financial key to resolving the barriers to full ESG performance, followed by 32% for the integration and the promise it holds. Chief Executive Officer. Equally telling, only 14% think that the Chief Financial Through engagement and other sources, Officer or Head of Investor Relations such as sustainability and integrated should do so, indicating that the invest- reports by companies, investors can ment industry doesn’t believe these roles get the data on ESG performance they are in tune with ESG integration yet. want and need. But for all the reasons we discussed earlier, it’s critical to put Our research suggests that constructing this data through a materiality filter. this filter is ultimately the responsibility of sector portfolio managers and analysts. While it is useful for them Incorporate Materiality Filter to know what the company believes to be material and SASB’s standards Data are only useful if they can be of can be helpful, these sector specialists use in achieving investment goals. must take ultimate responsibility for the This requires a clear understanding materiality determination. With a point of which ESG factors are material of view on the material ESG issues, for financial performance. sector portfolio managers and analysts Tellingly, two-thirds (64%) believe this skilled in ESG can then build invest- determination should be made by the ment models that incorporate both board of directors. The importance of financial and ESG factors. Two-thirds the board in determining ESG materiality of institutional investors now believe factors is also supported by a growing it’s possible to build models that show body of academic literature.36 In compar- the relationship between material ESG ison, only 39% of surveyed respondents factors and financial performance. believe the Chief Sustainability Officer should lead efforts on determining which

67% of institutional investors believe it’s possible to show the relationship between material ESG factors and financial performance

27 PURSUING THE PROMISE: SUSTAINABLE VALUE

Will the course of this Investing To get there, we need to embody Enlightenment always be smooth? the spirit of the Enlightenment: Probably not. Benjamin Franklin We need to take on the challenge charted the Gulf Stream, but missed that integration presents. the fact that it moved with the We need to ask for the data and seasons and other conditions. solutions that illuminate and enable It was the continued acquisition the material factors for investing, and integration of data —the continued and build models based on these data. combination of principle and We need to educate ourselves on pragmatism — that fulfilled the what’s possible, and practice it. promise of Franklin’s idea. We need to make ESG the core of We strongly believe in the promise our investment strategy to bring that full integration of ESG holds: about the Investing Enlightenment, sustainable long-term value a new age of reason. creation not just for our clients, but for society as a whole.

The promise of ESG is worth it.

28 THE INVESTING ENLIGHTENMENT Appendix and Notes

29 About the Authors

Robert G. Eccles, Ph.D. Mirtha D. Kastrapeli Robert G. Eccles is Chairman of Mirtha D. Kastrapeli leads the Arabesque Partners. He’s a Visiting Sustainable Investment research Professor of Management Practice effort at State Street’s Center for at the Saïd Business School at the Applied Research. She co-authored the University of Oxford. Previously a 2016 study Discovering Phi: Motivation as tenured Professor at Harvard the Hidden Variable of Performance, Business School, he has also and the 2014 paper The Folklore of taught at the MIT Sloan School of Finance: How Beliefs and Behaviors Management. Professor Eccles Sabotage Success in the Investment is the Founding Chairman of the Management Industry. She has Sustainability Accounting Standards almost 14 years of experience in the Board and one of the founders of the private and public sector, analyzing International Integrated Reporting capital markets and helping shape Council. The focus of his work is public policy. Kastrapeli is a regular leveraging the capital markets to speaker at key conferences and client support sustainable development. events globally, including those by Current topics of interest include Barron’s, Institutional Investor and integrated reporting, materiality, the Sovereign Investor Institute. fiduciary duty, and how sustainable corporate and investment strategies can contribute to financial performance.

30 THE INVESTING ENLIGHTENMENT About the Center for Applied Research

The Center for Applied Research (CAR) is an independent think tank residing at State Street’s corporate level and comprises a global team of researchers.

Building on the success of State Street’s established Vision thought leadership program, CAR brings together resources within the industry and across State Street to produce timely research on the topics that are most important to investors worldwide. CAR presents at conferences and provides executive briefings for clients and their boards of directors as a value-add service.

If you would like more information about the studies or the Center for Applied Research, you can contact the authors or send an email to [email protected].

Acknowledgments

We would like to express our deep appreciation to our dozens of internal and external interviewees and each of our survey respondents for participating in our research.

We would also like to thank the rest of the CAR team for their invaluable input on this research: Suzanne Duncan, Meredith Kaplan, Michael Morley, Mimmi Kheddache Jendeby, Phil Palanza and Stephanie Potter. Also a special thank-you to CoreData, State Street Center for Data Excellence, Tamsen Webster and David Wigan.

31 Methodology

Two global surveys form the basis By time of incorporating ESG strategies of this research project, one of (Are you currently implementing an ESG institutional investors and the other framework in your investment process?): of retail investors. The survey of Yes, for the past year 29% 582 institutional investors was evenly split between asset owners and Yes, for the past 2–5 years 33% asset managers, as well as between equity and fixed income investors. Yes, for 6 years or more 14%

Below is the distribution by AUM: No, but planning to 24%

Less than $1 billion 22% Participating institutions included public pension plans, corporate From $1 billion pension plans, insurance companies, to $10 billion 25% family offices, sovereign wealth funds, endowments, foundations and charities. From $10 billion Participating asset managers included to $25 billion 17% institutional-oriented asset managers, From $25 billion retail-oriented asset managers, blend to $100 billion 15% retail/institutional asset managers with a retail focus, and blend retail/institutional From $100 billion asset managers with an institutional to $250 billion 9% focus. Institutional respondents span From $250 billion 29 countries: Australia, Belgium, Brazil, to $500 billion 6% Canada, Chile, Colombia, Denmark, Finland, France, Germany, Hong Kong, $500 billion or more 6% Italy, Japan, Luxembourg, Mainland China, Mexico, Netherlands, New Zealand, Norway, Peru, Singapore, South Korea, Spain, Switzerland, Sweden, Taiwan, United Arab Emirates, United Kingdom and the United States.

32 THE INVESTING ENLIGHTENMENT The retail survey included 750 By time of implementing ESG respondents. Of those, 571 are strategies (ESG investors only): currently implementing some type Are you currently implementing an ESG of ESG strategy. Participating retail framework in your investment process? investors included mass market, Yes, for the past year 34% mass affluent and high-net-worth individuals. The sample includes Yes, for 2-5 years 26% 24 countries: Australia, Belgium, Brazil, Canada, Chile, Colombia, Denmark, Yes, for 6 years or more 16% France, Germany, Hong Kong, Italy, No, but planning to 7% Japan, Mainland China, Mexico, Netherlands, Norway, Singapore, No, and not planning to 17% South Korea, Spain, Switzerland, Both surveys were cross-sectional and Taiwan, United Arab Emirates, were conducted by CoreData on behalf United Kingdom and the United States. of the Center for Applied Research By investable household assets between November and December (all retail investors): What is the 2016 using an online survey platform. approximate value of your household’s Quantitative analysis was then conducted net investment assets (i.e., excluding through a partnership between the your primary household residence)? State Street Center for Data Excellence and CoreData. All percentages are Less than $100,000 26% rounded. Survey data were supple- $100,000 to $250,000 20% mented by 25 in-person interviews.

$250,000 to $1 million 36%

$1 million to $5 million 12%

$5 million or more 6%

33 Endnotes

1 Wood, Gordon S. & Honberger, 10 Subramanian, Savita, Suzuki, 13 Eccles, Robert G., Ioannou, Ioannis Theodore. “Benjamin Franklin.” Dan, Makedon, Alex, Carey Hall, & Serafeim, George. “The Impact Accessed March 2017. Link: Jill, Pouey, Marc & Bonilla, of Corporate Sustainability on https://www.britannica.com/ Jimmy. “Equity Strategy Focus Organizational Processes and biography/Benjamin-Franklin Point ESG: good companies can Performance.” Management make good stocks,” Bank of Science, Volume 60, no. 11 (2014). Lacouture, John. “The Gulf Stream America Merrill Lynch (2016). Pages 2835-2857. Link: http:// Charts of Benjamin Franklin and dx.doi.org/10.2139/ssrn.1964011 Timothy Folger,” Historic Nantucket, Friede, Gunnar. “ESG & Corporate Volume 44, no. 2 (1995). Pages Financial Performance: Mapping Khan, Mozaffar, Serafeim, George, 82-86. https://www.nha.org/library/ the Global Landscape.” Deutsche and Yoon, Aaron S. “Corporate hn/HN-v44n2-gulfstream.htm Asset & Wealth Management (2015). Sustainability: First Evidence on Materiality.” The Accounting Editors of Wikipedia, “Siege of 11 “ …pension fund fiduciaries can now Review, Volume 91, no. 6 (2016). Yorktown.” Accessed March consider material environmental, Pages 1697-1724. Link: http:// 2016. Link: https://en.wikipedia. social, and governance (ESG) dx.doi.org/10.2139/ssrn.2575912 org/wiki/Siege_of_Yorktown issues facing the companies in their investment portfolios.” Eccles, Clark, Gordon, Feiner, Andreas 2 Tucker, Abigail. “Palm Trees Robert G., “How to Show Corporate & Views, Michael. “From the in Ireland?” Smithsonian.com Leadership in Sustainability.” Stockholder to the Stakeholder: How (2010). Accessed March 2017. Forbes (2015), accessed March Sustainability Can Drive Financial Link: http://www.smithso- 2017. Link: http://www.forbes. Outperformance.” Arabesque Asset nianmag.com/science-nature/ com/sites/bobeccles/2015/11/03/ Management and Oxford University palm-trees-in-ireland-36548780/ how-to-show-corpo- (2015). Link: http://www.arabesque. rate-leadership-in-sustain- com/index.php?tt_e2de00a30f- 3 The Editors of Encyclopedia ability/#61c182ca3003 88872897824d3e211b11 Britannica, “Enlightenment.” Accessed March 2017. Link: https:// “ An important purpose of this Friede, Gunnar. “ESG & Corporate www.britannica.com/event/ Interpretive Bulletin is to Financial Performance: Mapping Enlightenment-European-history clarify that plan fiduciaries the Global Landscape.” Deutsche should appropriately consider Asset & Wealth Management (2015). 4 https://www.unpri.org factors that potentially influence risk and return. Environmental, 14 “ The Sustainability Accounting 5 Martindale, Will & Santisteve, social, and governance issues Standards Board sets indus- Miguel. “The Silent Revolution: may have a direct relationship to try-specific standards for corporate The Power behind the the economic value of the plan’s sustainability disclosure, with Principles.” (2014). investment. In these instances, such a view towards ensuring that issues are not merely collateral disclosure is material, compa- 6 https://www.unpri.org considerations or tie-breakers, but rable, and decision-useful for rather are proper components of investors.” Link: https://www. 7 US SIF refers to ESG investing as the fiduciary’s primary analysis of sasb.org/sasb/vision-mission/ “sustainable and impact investing.” the economic merits of competing Link: http://www.ussif.org investment choices.” Department 15 Link: http://integratedre- of Labor Employee Benefits porting.org/the-iirc-2/ 8 US SIF: The Forum for Sustainable Security Administration, 29 CFR Investment and the US SIF Part 2509. October (2015). Link: 16 Eccles, Robert G., Verheyden, Tim & Foundation, “Report on US https://www.gpo.gov/fdsys/pkg/R- Feiner, Andreas. “ESG for All? The Sustainable, Responsible and 2015-10-26/pdf/2015-27146.pdf Impact of ESG Screening on Return, Impact Investing Trends 2016.” Risk and Diversification.” Journal of (2016) Link: www.ussif.org/trends 12 The Climate Disclosure Standards Applied Corporate Finance, Volume Board, “EU Non-Financial Reporting 28, no.2 (2016). Pages 47-55. Link: 9 Global Sustainable Investment directive — how companies https://papers.ssrn.com/sol3/ Alliance, “Global Sustainable make the most out of it,” Climate papers.cfm?abstract_id=2834790 Investment Review 2014.” Disclosure Standards Board News, (2014), page 2. Link: http:// CBDB.net (2016). Accessed March Kotsantonis, Sakis, Pinney, Chris & www.gsi-alliance.org/ 2017. Link: http://www.cdsb.net/ Serafeim, George. “ESG Integration wp-content/uploads/2015/02/ news/mandatory-reporting/614/ in Investment Management: Myths GSIA_Review_download.pdf eu-non-financial-reporting- and Realities.” Journal of Applied directive-%E2%80%93-how- Corporate Finance, Volume 28, no.2 companies-make-most-out-it (2016). Pages 10-16. Link: http:// dx.doi.org/10.1111/jacf.12169

34 THE INVESTING ENLIGHTENMENT Clark, Gordon, Feiner, Andreas United Nations-supported 24 Robins, Nick. “2016, The Year of & Views, Michael. “From the Principles for Responsible Green Finance — The View from Stockholder to the Stakeholder: How Investment & UN Global compact. London.” Huffington Post (2017). Sustainability Can Drive Financial “Fiduciary Duty in the 21st Century Link: http://www.huffingtonpost. Outperformance.” Arabesque Asset US Roadmap.” Principles for com/nick-robins/2016-the-year- Management and Oxford University Responsible Investment (2016). of-green-fi_b_8991650.html (2015). Link: http://www.arabesque. com/index.php?tt_e2de00a30f- Sloggett, Justin, Gerritsen, Don 25 SASB stands for the Sustainability 88872897824d3e211b11 & Tyrrell, Mike. “A Practical Accounting Standards Board. Guide to ESG Integration for “SASB’s mission is to develop Friede, Gunnar, Lewis, Michael, Equity Investing.” Principles for and disseminate sustainability Bassen, Dr. Alexander & Busch, Dr. Responsible Investment, United accounting standards that help Timo. “ESG & Corporate Financial Nations Global Compact, United public corporations disclose Performance: Mapping the Global Nations Environment Programme material, decision-useful informa- Landscape.” Deutsche Asset & Finance Initiative (2016). Link: tion to investors. That mission is Wealth Management (2015). https://www.unpri.org/news/ accomplished through a rigorous pri-launches-esg-integra- process that includes evidence- Eccles, Robert G.”The State of ESG tion-guide-for-equity-investors based research and broad, Literature.” Presentation, New balanced stakeholder participation.” York State Common Retirement 21 Garton, Alice. “New QC Legal Link: https://www.sasb.org/ Fund, New York (2016). Opinion Confirms Pension Fund Trustees’ Legal Duty to Assess George Serafeim furthers the 17 UNPRI Joint Study with Cerulli Climate Risk.” Client Earth Investor credibility of relating sector specific Associates, “Evolving Product Briefing (2016). Link: http://www. material ESG data to financial Trends: Strategic Beta and documents.clientearth.org/library/ performance. “Using newly-avail- ESG/SRI.” U.S. Products & download-info/qc-opinion-the-le- able materiality classifications of Strategies 2016 (2016). Page 80. gal-duties-of-pension-fund-trust- sustainability topics, we develop ees-in-relation-to-climate-change/ a novel dataset by hand-mapping 18 This is a somewhat biased sample sustainability investments classified because we focused on institu- Logan, Lorna & Reynolds, Jake. as material for each industry into tional investors that were or were “Climate Change: Implications firm-specific sustainability ratings. planning to implement ESG into for Superannuation Funds This allows us to present new their investment process. However, in Australia.” Colonial First evidence on the value implications our retail survey included investors State, Wealth Management of sustainability investments.” who were not integrating ESG. Group in Australia (2016). Khan, Mozaffar, Serafeim, George & Yoon, Aaron S., “Corporate 19 Eccles, Robert G. “Protecting 22 Eccles, Robert G., Ioannou, Ioannis Sustainability: First Evidence American Pension Plan & Serafeim, George. “The Impact on Materiality.” The Accounting Benefits.” Forbes.com (2015). of Corporate Sustainability on Review, Volume 91, no. 6 (2016). Link: http://www.forbes.com/ Organizational Processes and Pages 1697-1724. Link: http:// sites/bobeccles/2015/10/26/ Performance.” Management dx.doi.org/10.2139/ssrn.2575912 protecting-american-pen- Science, Volume 60, no. 11 (2014). sion-plan-benefits/#9670aa831341 Pages 2835-2857. Link: http:// 26 Amel-Zadeh, Amir & Serafeim, dx.doi.org/10.2139/ssrn.1964011 George. “Why and How Investors 20 United Nations-supported Use ESG Information: Evidence from Principles for Responsible Khan, Mozaffar, Serafeim, George, a Global Survey.” Harvard Business Investment. “Fiduciary Duty in and Yoon, Aaron S. “Corporate School Accounting and Management the 21st Century.” Principles for Sustainability: First Evidence Unit Working Paper (2017). Page 2. Responsible Investment (2015). on Materiality.” The Accounting Link: https://papers.ssrn.com/sol3/ Review, Volume 91, no. 6 (2016). papers.cfm?abstract_id=2925310 United Nations-supported Pages 1697-1724. Link: http:// Principles for Responsible dx.doi.org/10.2139/ssrn.2575912 Serafeim, George. “Turning a Investment, UNEP FI & The Profit While Doing Good: Aligning Generation Foundation. “Investor 23 Hernandez, Alliccia. “CFA Institute Sustainability with Corporate Obligations and Duties in 6 Launches ESG Guide for Investment Performance.” The Center for Asian Markets.” Principles for Professionals,” CFA Institute Effective Public Management at The Responsible Investment (2016). (2015). Accessed March 12, 2017. Brookings Institution (2014). Page: Link: https://www.cfainstitute. 2. Link: https://www.brookings.edu/ org/about/press/release/ research/turning-a-profit-while-do- Pages/11192015_127086.aspx ing-good-aligning-sustainability-with-corporate-performance/

35 Eccles, Robert G., Serafeim, George “ The Coalition for Inclusive 36 Eccles, Robert G. & Youmans, & Andrews, Phillip. “Mandatory Capitalism, a not-for-profit organi- Tim. “Materiality in Corporate Environmental, Social, and zation, is dedicated to promoting Governance: The Statement Governance Disclosure in the the Inclusive Capitalism movement. of Significant Audiences and European Union.” Harvard Business Inclusive Capitalism is a global Materiality” Journal of Applied School Case (2011). Pages 111-120. effort to engage leaders across Corporate Finance, Volume 28, business, government and civil no. 2 (2016). Pages 39-47. 27 “75% of retail investors say they society in the movement to make invest to achieve a long-term capitalism more equitable, sustain- Eccles, Robert G. & Youmans, investment objective such as saving able, and inclusive. Together we can Tim. “The Board that Embraces for retirement.” Duncan, Suzanne, achieve this through business and Stakeholders Beyond Fullerton, Sean D., Humbert, investment practices that extend Shareholders,” MIT Sloan Samuel, Kastrapeli, Mirtha D., the opportunities and benefits of our Management Review (2016). Link: McKenna, Kelly J. & Shandilya, economic system to everyone. We http://sloanreview.mit.edu/article/ Nidhi V. “The Folklore of Finance.” believe that firms should account the-board-that-embraced-stake- The Center for Applied Research, for themselves not just the bottom holders-beyond-shareholders/ State Street Corporation (2014). line. By taking a broader view of the firm – its purpose, products, Eccles, Robert G. & Youmans, 28 “ The Sustainability Accounting people and planet – it is more likely Tim. “Why Boards Must Look Standards Board sets indus- to prosper over the long term.” Link: Beyond Shareholders,” MIT Sloan try-specific standards for corporate http://www.inc-cap.com/about-us/ Management Review (2015). sustainability disclosure, with Link: http://sloanreview.mit. a view towards ensuring that 31 http://www.fcltglobal.org/ edu/article/why-boards-must- disclosure is material, comparable, look-beyond-shareholders/ and decision-useful for investors.” 32 CECP: The CEO Force for Good SASB leverages a sector approach http://cecp.icreondemos- to defining materiality based on erver.com/our-coalition/ dividing companies into 1 of 10 strategic-investor-initiative/ sectors and 1 of 79 industries. Link: https://www.sasb.org/ 33 Coalition for Inclusive Capitalism http://www.inc-cap.com Deutsche Bank Markets Research, “The Case for Sustainable 34 Eccles, Robert G. & Serafeim, Thematic Investing.” (2017). George. “A Tale of Two Stories: Sustainability and the Quarterly 29 Duncan, Suzanne, Fullerton, Earnings Call.” Journal of Sean D., Humbert, Samuel, Applied Corporate Finance Kastrapeli, Mirtha D., McKenna, Volume 25, no.3 (2013). Kelly J. & Shandilya, Nidhi V. “The Folklore of Finance.” The 35 Hermes is a UK-based fund manag- Center for Applied Research, er that promotes ESG investing State Street Corporation (2014). and actively engages regulators on perceived questionable corporate 30 CECP: The CEO Force for Good, initiatives in order to create a more created the Strategic Investor fair economy. “Our vision is to Initiative to support companies contribute to a more sustainable on their path to developing form of capitalism by creating the long-term sustainability plans world’s most effective stewardship platform. Hermes EOS anticipates a Barton, Dominic & Wiseman, world where the power of effecting Mark. “Focusing Capital on change through engagement with the Long Term.” Harvard companies is front of mind for all Business Review (2014). Link: owners. That is because, for us, https://hbr.org/2014/01/ the link between these topics and focusing-capital-on-the-long-term long-term value for companies and investors is clear.” Link: https:// www.hermes-investment.com/

36 THE INVESTING ENLIGHTENMENT

Important Risk Information Investing involves risk including the risk of loss of principal. Diversification does not ensure a profit or guarantee against loss. The information provided does not constitute investment State Street Corporation advice and it should not be relied on as such. It should not be considered a solicitation to buy State Street Financial Center or an offer to sell a security. It does not take into account any investor’s particular investment One Lincoln Street objectives, strategies, tax status or investment horizon. You should consult your tax and financial advisor. All material has been obtained from sources believed to be reliable. Boston, Massachusetts 02111–2900 There is no representation or warranty as to the accuracy of the information and State Street +1 617 786 3000 shall have no liability for decisions based on such information. The views expressed in this www.statestreet.com material are the views of Mirtha D. Kastrapeli and Dr. Robert G. Eccles through the period ending March 31, 2018 and are subject to change based on market and other conditions. ©2017 State Street Corporation This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual All Rights Reserved results or developments may differ materially from those projected. The whole or any part of 17-30298-0317 CORP-2771 this work may not be reproduced, copied or transmitted, or any of its contents disclosed to third Expiration date: 3/31/2018 parties without State Street’s express written consent.