Q. What was your main objective in writing Environmental, Social and Governance (ESG) Factors in a Superannuation Context paper?

A. There has been a growing interest in environmental, social and governance (ESG) factors. However, it is a complex area and there is a lot of information available on the topic. The paper aims to provide a summary of ESG factors in a superannuation context, so trustees have an ESG overview in one place.

Why has there been a growing interest in ESG factors? ESG factors have been shown to impact on the risk and returns of investments. As part of a superannuation fund’s practices to achieve good governance, it could include awareness and understanding of how ESG factors might impact their investment strategy and the broader operating environment.

Also, as APRA has advised, there may be changes to the investment governance standard (SPG 530) to clarify how superannuation trustees should take into account ESG factors when developing investment strategies. In the context of all this change, the paper aims to provide a summary to help trustees better understand ESG factors.

Q. How is ESG different to Ethical Investing? Do you think the difference is generally understood?

A. Considering ESG factors as part of the investment process is different from ethical investing. When considering ESG factors, superannuation funds need to execute from a value perspective (that is, add to retirement savings outcomes), not a values perspective.

This is quite different to ‘socially responsible investing’ or ‘ethical investing’, which recognises a cause that an investor might want to support through their investments. Superannuation trustees, in identifying their preferred approach to consider ESG factors, need to consider their choice in the context of their duties and functions. At a high-level, it could involve the trustee considering ESG factor information in making decisions to more completely assess risk and/or return.

The OECD paper Investment governance and the integration of environmental, social and governance factors explains that while ethical investing might “not necessarily generate inferior financial returns… it is likely that lower financial returns will be tolerated in order to support a particular cause.” The consideration of ESG factors are, generally, linked to financial outcomes.

Q. Why would trustees consider ESG factors as part of their investment strategy?

A. The primary purpose and role of a superannuation fund trustee is to hold and invest members’ assets to secure and maximise their retirement savings. Relevantly, many factors that fall under the ESG umbrella can influence investment returns over both short- and long-term time horizons.

For investors—particularly superannuation funds with long-term investment horizons—there is a strong incentive to ensure that underlying investment processes can manage long-term risk and generate appropriate returns. Consideration of ESG factors might be part of this investment process. However, it is important to note that ESG factors are not static and evolve as markets change, requiring investors to likewise evolve.

Q. Should there be equal weighting on environmental, social or governance factors, or is one category more important than the others?

A. Overall, the identification of material ESG factors will make the biggest difference in financial outcomes rather than necessarily focusing on a particular category. Performing well on addressing material ESG issues has been shown to positively impact the financial returns of businesses, whereas performance (negative or positive) on immaterial ESG issues has been shown to have a negligible effect on financial returns.

Focusing on material ESG factors that may impact a sector and/or country helps narrow the list of ESG factors that could be considered for each investment. Given consideration of every ESG factor for every investment can be resource intensive, particularly for large and highly diversified portfolios, narrowing the list of ESG factors to consider can help manage resource constraints.

However, analysis of governance factors, in the broader analysis of ESG, can often suggest whether a business has environmental and social issues. That is, if there are indications that a business has weak governance, it may signify that it is likely there are environmental and social issues as well. Some investors, therefore, increase the weighting of governance factors in analysing the ESG performance of their investment.

Q. How can trustees learn more about ESG?

A. There is a wealth of information about ESG factors available. For a general overview, the OECD’s paper Investment governance and the integration of environmental, social and governance factors is a great starting point. And then of course, ASFA’s new paper for a superannuation context.

Q. How would you sum up the paper?

A. The paper essentially aims to provide factual information about ESG factors in the context of superannuation. It provides a starting point for trustees. When researching for this paper, it took quite a bit of time to read through the material on ESG factors in order to grasp an understanding of ESG factors and how they might be relevant to the Australian superannuation system. So, hopefully the paper is a good factual summary to explain ESG factors and how they might be relevant to trustees.

Table 1: Examples of ESG factors

Environmental Social Governance
  • climate change – including physical risk and transition risk
  • resource depletion, including water
  • water and wastewater management
  • waste and hazardous materials management
  • deforestation
  • energy management
  • ecological impacts
  • working conditions, including slavery and child labour
  • local communities, including indigenous communities
  • conflict
  • customer privacy
  • data security
  • access and affordability
  • product quality and safety
  • customer welfare
  • selling practices and product labelling
  • employee engagement, diversity and inclusion
  • pay
  • bribery and corruption
  • political lobbying and donations
  • board diversity and structure
  • tax strategy
  • systemic risk management
  • competitive behaviour
  • management of legal and regulatory environment
  • critical incident risk management

Source: UNPRI, https://www.unpri.org/pri/what-is-responsible-investment & SASB https://www.sasb.org/standards-overview/materiality-map/

For further information you can read the ‘Environmental, Social and Governance (ESG) Factors in a Superannuation Context’ paper on the ASFA website, or contact Maggie Kaczmarska, Senior Policy Advisor at mkaczmarska@superannuation.asn.au.