At the end of 2018, the Intergovernmental Panel on Climate Change (IPCC) issued one of the starkest warnings yet on rising global temperatures

Emissions are still rising, and institutions are beginning to recognise that environmental sustainability is no longer a boxticking exercise.

Along with this realisation comes increasing intervention from regulators. From 1 October 2019, any pension schemes with more than 100 members will be forced to disclose the risks of their investments to the Department for Work and Pensions, including those impacting Environmental, Social and Governance (ESG) and climate change. 

A combination of these factors means ESG and impact investing is becoming increasingly important for institutional investors when evaluating investment opportunities across the globe and across asset classes. But identifying these opportunities is not easy. 

New research from Octopus surveying 100 global institutional investors, representing $6.8 trillion assets under management, reveals that over half (55%) of investors cite access to sufficiently attractive products as a significant challenge to ESG investing. Institutions are in pursuit of assets that satisfy their strict criteria, and this includes their return requirement threshold. They are not willing to meet halfway.

One way to overcome this hurdle is renewable energy infrastructure projects. Renewable energy infrastructure offers a clear and tangible ESG opportunity to investors given it is so closely aligned to a carbon free economy.

The strong link between this asset class and the path to a renewable future makes it much easier for institutional investors to identify strong ESG performance at the underlying asset level. Otherwise there is a danger institutions become lost in a fund with loose ESG strategies and questionable credentials. 

In addition, the long tenured cash flow returns generated by these assets, when coupled with their ESG credentials, make them doubly attractive to institutional investors.

It’s an indisputable fact that ESG investing trend is beginning to impact institutional investment decisions across the globe. The investors we surveyed — including pension funds, family offices, private banks and insurance firms — revealed that after diversification, ESG is the second biggest driver to investing in renewables.

As an organisation, we too have seen more focus and scrutiny on ESG from our pension funds clients. Many are also now signatories to the UN Principles for Responsible Investments, highlighting the transformational shift in these institutions’ mindsets.

More than half (58%) of global renewable energy investors see ESG as a key driver for investment demand in the sector. This is contributing to both current and future demand — the institutions we surveyed plan to invest $210 billion into the asset class in the next five years. This will involve almost doubling their portfolio allocations, from 4.4% to 7.1%.

As the profile of ESG rises on the public and governmental agenda, the top reason for including ESG in portfolio decisions for institutional investors is protecting their profile and image — over half (57%) cited this as a factor.

This pressure is likely to increase as end investors put more pressure on institutional investors to include ESG in their portfolio decisions. Greener millennials are now more engaged than ever with sustainable causes, explaining why almost half (47%) of the investors we surveyed adopt ESG as a result of end investor demand and to align with global investment trends.

It is important for institutions that sustainable impact and profitability are aligned. Over half of all investors surveyed (56%) say they are not willing to sacrifice higher investment returns to achieve ESG targets.

This should be less of an issue for institutions, given the significant evidence supporting the conclusion that ESG investors can at least match the returns of ordinary investors. According to Friede & Busch, more than 90% of these studies undertaken in the past 40 years have found that ESG factors have a positive or neutral impact on financial returns.

ESG is quickly climbing institutional investors’ list of priorities when it comes to their investment portfolios. But there is currently a lack of attractive product. Investors should consider assets that embody ESG at the underlying level —where the impact is true to its core. The move to a carbon free future means renewable energy infrastructure projects comfortably fits the criteria.

By Hiti Singh of Octopus Investments