Sustainable investing may be taking the wider investment fund world by storm, especially in Europe. But when it comes to liquid alternative funds, the sustainable wave is less advanced.
Some in the liquid alternative space remain openly dismissive of sustainability as an investment principle. Certain liquid alternative providers use derivatives, making it more difficult to integrate sustainability criteria. Derivatives are excluded from the EU’s Taxonomy.
But while some professionals in the liquid alternative space express doubts about whether ESG criteria can fit into their investment approach, some see clear benefits to adopting the more transparent, reporting-heavy approach common in the ESG investment area, and express optimism that difficulties keeping some players away from such assets can be dealt with, sometimes with as little as a change of viewpoint.
Broad church
Francesco Paganelli, a senior manager research analyst at Morningstar presented data showing that of the nearly 1,800 European liquid alternative funds his employer tracks, “less than 1% of those funds are classified as SFDR Article Nine.” For Article Eight funds, it’s around 10%. For Paganelli, who described the liquid alternative scene as “a broad church”, it’s a question of whether there’s a fit or a match. “I think that there can be a fit,” he said, “but it depends on the strategy and the sustainable approach that you take.
Matt Humphries, vice ppresident, hedge funds research at Preqin, a provider of data, solutions and insight to the alternative assets world, produced a more optimistic view, discussing data showing that ESG was become more prominent in the alternative asset space, “not just hedge funds, but across private equity, venture capital, infrastructure, real estate.” He said that European hedge fund managers were significantly more likely to have implemented ESG, with as many as 45% having an ESG policy.
Elina Kavvezou, head of investor relations at Nordea Asset Management, where 65% of the funds are Article 8 and 9 funds and which has emphasised liquid alternatives in order to help its investors obtain the returns and diversification they need. She emphasised that when it comes to the liquid alternative world, time horizon a key consideration. “The longer the time horizon, the better the strategy is matching,” she said, speaking at a recent ALFI event entitled: the ALFI Hedge Funds and Liquid Alternatives event.
“For me it is definitely not a mismatch,” she said. “I could feel more that it would be a mismatch if it’s not taken seriously.”
Sustainability promoting transparency
Paul Woods, director of sustainability and ESG at Arrow Global, an alternative fund firm with 70 billion euros in assets under management, said he thinks of sustainability playing a role in encouraging transparency within his firm and others.
“So setting the goals very clearly up front, the KPIs very clearly up front, if you’re going to have a mismatch, it’s because the way you’re thinking of tracking and measuring that performance and maybe how you’re marketing things just aren’t aligned,” he said. “I think that upfront transparency and alignment, the measures of your performances are absolutely key to that long-term success.”
Woods suggested that the transparency point might conflict with firms that are not comfortable with disclosing information. “I think that also requires inside firms for there to be a level of comfort to disclose more information, not just the ability to do so.” He pointed out that not all investment cases fit into a sustainability outcome models. “So there still needs to be some room across the spectrum of what firms are trying to do to maximise where we can achieve those sustainability aims.”
ESG pillars intertwined
Addressing the various “pillars” of the ESG domain, Woods spoke about how the pillars are “increasingly intertwined.” He explained further: “I think it’s very difficult in some ways … to look at some investment opportunities through just the siloed lens of the environmental lens, or the social lens,” he said. “The interactivity between those should really be something that comes through in your investment underwriting process – which ultimately means the governance – the G part of your framework – is working.”
Kavvezou noted how much attention has been paid to the “E”, the environment. “Maybe it’s time to also look carefully on the S (social),” she said. “Because if you cannot change your behaviours, how are you going to change our environment?” She pointed out that since Covid, people have been reassessing and, she suggested, have started to see their social fears again. “We cannot solve either the environment nor governance, any of the letters in ESG without working across the board.
Performance fee linkage
The idea of linking the performance fee in liquid alternative and hedge funds with a non-financial objectives such as sustainability was led Kavvezou to point out how this kind of discussion illustrates how fast the industry is transforming. She said the idea is “a game-change”. It’s something that we can benefit from on the product side and on the individual side,” though she admitted to concerns about her bank account.
Woods summed up the discussion as being “about how you change attitudes and you change behaviours, And obviously if you can find that linkage and find a level of reward associated with it” there could be great benefits to the investment structure.
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