In Ontario, the regulator recently made it a requirement effective Jan. 1, 2016 for pension funds to disclose whether environmental, social and governance (ESG) factors have been incorporated in the pension fund’s Statement of Investment Policies and Procedures (SIPP). Similar provisions are already in place in the United Kingdom, France, Germany, Sweden and Belgium, and it’s expected more Canadian provinces will consider making ESG consideration mandatory as well. Given how recent the requirement is, most pension funds are just starting to discuss their beliefs around ESG factors and the degree to which they will be incorporated in the SIPP and investment decision making.

In years past, investors spoke of socially responsible or ethical investing where certain types of investments were excluded. These included companies that engaged in strip mining, deforestation, produced tobacco or alcohol, etc. While this remains an element of sustainability, it’s only a small part of it. Consideration of ESG factors in investment decision making, while not explicitly financial in nature, can have a longer-term financial impact. Investing in securities or businesses that are more sustainable cannot only increase longer-term returns, but reflects good risk management. There is also a greater alignment between investors and owners.

Read: Final regulations on retiree statements, investment policies released

There are three main categories that are broadly included in today’s ESG or sustainable investment: social, environmental, and corporate governance.

The social category includes many issues that you and your plan members are likely concerned about—employment quality, health and safety, child labour, community-based investing, diversity and opportunities, etc. For example, recent factory deaths in Bangladesh have changed manufacturing policies for many apparel companies, but have also forced investors to consider labour policies when investing in these companies.

From an environmental perspective, there have been many actions taken by investors. The more positive approach has been the focus on renewable energy by governments and investors alike over the last few years. A more “negative” screening has been adopted by organizations such as AP2 in October 2014, which decided to no longer invest in 12 coal and 9 oil and gas production companies. More recently, professors at the University of British Columbia voted on whether to ask the institution to divest its $1.2-billion endowment of any oil and gas stocks. While these are extreme positions, such action speaks to the sort of analysis investors are undertaking.

Read: Responsible investment assets hit $1-trillion mark

Probably the one area that has gained the most traction of late is corporate governance. Activist investor Pershing Square’s board coup and management shake-up at Canadian Pacific has led to a more than doubling of Canadian Pacific’s share price as operating efficiency improvements have been made. Warren Buffet’s criticism of pay practices at Coca-Cola led the company to reduce the number of shares it hands out to its top officers as part of changes to its executive compensation plan.

Institutional investors have been evolving their approaches towards sustainability and stewardship at varying rates across different regions and market segments. Generally speaking, investors from Northern Europe and Australia have tended to be amongst the most advanced. And public funds, foundations, endowments and charities are typically further ahead of their corporate pension fund peers. Examples of leading Canadian funds include the Canada Pension Plan Investment Board, Ontario Teachers’ Pension Plan, and Caisse de Dépôt et Placement du Québec. However, we are seeing best practices spread to other regions and types of investors, including corporate pensions, especially where the sponsor has a discernable sustainability strategy of its own.

Read: Responsible investment and fiduciary duty

As already noted, Ontario registered pension plans have to determine the degree to which they wish to incorporate sustainability principles into investment decision making. Approaches vary from basic compliance to best practice approaches such as those adopted by the leading pension plans.

Discussions with clients are at the early stages and we expect plan sponsors to vary in their response to ESG considerations. Many are taking the opportunity to review investment beliefs generally, and are quizzing their managers on their investment processes and how they incorporate ESG factors, if at all. It’s important that the dialogue begin now as Jan. 1, 2016 is not that far off.

Janet Rabovsky is a partner at Ellement. She has more than 25 years of experience in the industry. These are the views of the author and not necessarily those of Benefits Canada.
Copyright © 2018 Transcontinental Media G.P. Originally published on benefitscanada.com

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