00:00This is The Conscious Investor presented by Nuveen.
00:02I'm here with Martin Kremenstein, the head of retirement and ETF solutions at Nuveen.
00:06Can you talk to me about the ESG metrics and what do they measure
00:09and how good are they of measures of social responsibility and where do they fall short?
00:16Sure, so ESG stands for environmental, social and governance.
00:19And what that really is, is a framework for analyzing companies
00:22and really assessing how well they compare to their peers
00:26in terms of performance against these metrics.
00:28Under E, you have, for environmental, you have water usage, waste production
00:35and general kind of environmental behavior, like how efficient they are
00:38at managing their resources and also looking after the environment around them.
00:42Under social, it's around how well do they treat their clients,
00:45how well do they treat their workers,
00:47and then there are also some diversity aspects around the management and the workforce.
00:51And then under governance, I mean, that's around share class structure
00:55and governance structure within the company.
00:57How well run is the company?
00:59When you take it all together, what you're really looking at is another way of assessing a company
01:03without looking at its balance sheet and looking at how it impacts the broader society at large.
01:08And where do these do a really good job?
01:09And where do you think that they fall a little short?
01:12What can't they measure?
01:13Sure, so I think what they do, they do a good job in terms of how well is company A
01:17doing compared to company B.
01:19But it's less good, I think, at looking at what is the overall mission of a company in terms of
01:25is it out there to do good?
01:26And if so, how do you manage that?
01:28I think the other way where it kind of falls a little bit short is that it's a little bit
01:32of a framework.
01:34So lots of people have different views around what is more important.
01:38For some people, it's around environmental that's more important.
01:40For others, it's social.
01:41For others, it's governance.
01:41You know, as many people as there are in a room, there are going to be different opinions as to
01:45what actually is important.
01:46And so unless you are going to go and build a bespoke portfolio for someone in a separately managed account,
01:52there's going to have to be some degree of compromise around how that ESG framework is actually going to be
01:57applied.
01:57And are they self-reported?
01:59Are companies sharing these metrics with you, I mean, with investors at large?
02:04Yeah, so most of the data is public.
02:06It's a combination of self-reported and also analysis done by, you know, analysts who are poring over company fact
02:12sheets,
02:14you know, their regulatory reporting and so forth.
02:17So because of that, you do tend to get better reporting from larger companies,
02:20but you can get reporting for companies all the way down the cap structure, cap size, and also internationally as
02:28well.
02:28You know, we're able to produce an ESG framework that enables you to look at large cap value as well
02:33as small cap,
02:34but also emerging markets and developed markets as well.
02:37And do you have advice for people who want to invest along their values
02:40and who maybe haven't spent a lot of time looking at the ESG metrics?
02:44What is some way to get them over the hurdle where it feels like there's just too many options
02:48and they want to put their money where their values are?
02:51Sure. So I think there are a couple of things.
02:53First of all, they are going to have to define for themselves what's important to them.
02:57And, you know, there are certain ESG providers that have a very specific slant to how they're doing it
03:02and they have to decide whether that's what they're looking for,
03:05whether it's based on religious or certain other social aspects.
03:08If they're looking for just general, you know, ESG in terms of framework for companies
03:12that are better stewards of their, you know, the environment and social,
03:16then really they should either look for ESG providers.
03:19There are certain companies that have been in this space for a long, long time.
03:22And all ESG funds will be labeled ESG or Responsible Investing or Impact
03:26because, you know, if you have an ESG fund, you are going to put that in the name somewhere.
03:30And then you need to look at how the products work.
03:33You know, look at the criteria by which companies are being scored.
03:36That should be very, very clear and apparent within the fund's literature.
03:40If it isn't, maybe they'll move on to another provider.
03:42If you're looking at your retirement plan, maybe talk to whoever runs your company's retirement plan
03:47and ask them about responsible investing options for that plan.
03:50Is there a trade-off? Do you feel like that you can still make money and invest it responsibly?
03:56So historically, the knock has been that to actually have responsible investing,
04:00you had to give up some performance.
04:02I think we're seeing now that that isn't the case.
04:04And we're actually seeing, you know, lots of times where using an ESG framework
04:09can actually help you avoid companies with bad practices.
04:12You know, for example, we had the Equifax scandal sometime last year, right?
04:16Well, Equifax had actually been downgraded by major ESG data providers over data privacy
04:22and security issues about 18 months to two years beforehand.
04:25You know, within our large-cap growth ETF, Facebook hadn't been included
04:29because it scored relatively poorly compared to other tech companies over data privacy concerns.
04:34That was not something that I ever considered as part of an ESG framework is data privacy,
04:38but it's very important to a lot of people.
04:40A lot of people are divesting from Facebook now.
04:42How does that metric work in ESG?
04:46So, you know, when you're looking at a company,
04:49the data provider is scoring the company.
04:50So we use MSCI as our data provider.
04:52When they score the company, they score it based on all the different, you know, criteria.
04:56And under social, data privacy is in there.
04:59But also, when you're looking at controversial business practices,
05:02which is another way of scoring companies,
05:05you look at things that could be controversial.
05:07And so the data privacy thing had come up from the, I think, the 2014 kind of conversation Facebook had
05:13with the government.
05:14So that was something that was always on the radar.
05:15And so Facebook doesn't have a particularly bad ESG score on absolute terms.
05:19But compared to the rest of the tech sector, which tends to do better, it scored relatively poorly.
05:23So within our large-cap growth ETF, right, it scored poorly in tech.
05:28It didn't make the cutoff for tech, so we didn't have it in there.
05:30So, you know, last year, as Facebook did quite well, our performance suffered.
05:34This year, without Facebook in there, our performance has done quite well.
05:37And divesting seems to be one way in which a lot of people want to express their values.
05:41Is that something that you're seeing?
05:44And how effective is divesting as a method of making a difference?
05:49So divestment is one tactic you can use.
05:52I think, you know, we have certain industries where we do divest from.
05:55So weapons manufacturers, alcohol gambling, tobacco, and then nuclear power.
06:02However, you know, those are industries that we feel that, like, they're essentially, they're put in that sin stock basket
06:09and so we divest.
06:10Beyond that, I think if you are just doing straight divesting, what you are doing is taking yourself out of
06:14the conversation with the company, with the issuer of the stock.
06:18For example, if you were to divest from energy companies, you couldn't actually be in a conversation with them as
06:24a major shareholder, encouraging them to look at, say, renewables, right?
06:27So you need to kind of weigh up divestment, which is, all right, I feel good because I'm not invested
06:31in what I think is a sin stock, versus, well, I have no say in trying to influence that company's
06:35behavior.
06:36So it can be a little bit self-defeating because you've now removed yourself from that conversation with the company.
06:41And how much does it cost to be a good, to be a socially responsible investor?
06:45Are fees higher on socially responsible investment products?
06:49Not particularly.
06:50I mean, we price our ETFs somewhere between the straight kind of market cap weighted benchmarks and, you know, smart
06:57beta.
06:58And when you look at how we're scoring the companies, someone once said to me, well, it's very much like
07:02non-financial quality factors.
07:04You can look at ESG as almost like a smart beta overlay, particularly when you consider the risk management aspects
07:09of it.
07:09But, you know, we actually put together a series of portfolios using all the building blocks within our ESG ETF
07:15suite.
07:16And it came in most of the time under 30 basis points.
07:18So we think investors can actually, you know, invest according to their beliefs without paying over the odds to do
07:24so.
07:25And can you talk about that a little bit, like the smart beta and the benefit from investing, from not
07:30investing in things like Facebook?
07:31Well, so if you think about the factors themselves, they are effectively how well run is the company?
07:37So you're looking at quality factors, right?
07:39And quality is one of the more nebulous of the smart beta major factors.
07:44And so you could say, well, actually, this is just another way of defining quality in a company, right?
07:48Does it waste resources?
07:50Does it look after its customers and stay out of trouble with the regulators?
07:53And, you know, does it have a decent management structure that encourages accountability?
07:57And so by having that framework in place, you're able to avoid companies like Volkswagen, BP before the Deepwater Horizon
08:05incident had actually been downgraded and removed from major ESG indices over concerns about its outsourcing of maintenance of offshore
08:12oil wells, right?
08:13Which is precisely what happened there.
08:14So it's really a very, very good risk management tool.
08:17And, you know, MSCA did research.
08:18And I think they found that companies in the bottom 10% for ESG score had a much, much higher
08:25likelihood of what they deemed to be a catastrophic or a material drop-in share price from an incident.
08:33And by material, they were talking 90%.
08:35And so, you know, by actually having this framework in place, you are really putting in place a method for
08:41trying to avoid tail risk from companies that are badly run and may end up having serious, serious scandals in
08:47the press.
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