A decision taken last year by one of Saudi Arabia's biggest asset managers to adopt a new Prudent Ethical Investing strategy has already had a significant effect on its investment decisions, with the firm now sizing up the launch of a new ethical fund, the company's senior director of business development has said.
In an interview with Zawya on the sidelines of the Global Islamic Economy Summit on October 31, SEDCO Capital’s Ayman Al Bashir said that the Jeddah-based asset management firm has already reviewed its line-up of existing asset managers, and no longer invests with firms unless they are either signatories to the United Nations-based Principles for Responsible Investing (PRI), or have an environmental, social and governance layer within their investment offerings.
"In the past, we used just to follow performance. So this is a new change. Any active manager has to have one of these two options," he said.
SEDCO Capital earned total revenue of 139.1 million Saudi riyals ($37.1 million) in 2017, up 7.2 percent year-on-year, and its net income increased by 12.3 percent to 38.3 million riyals, according to filed accounts.
The 42 year-old company, which is based in Jeddah and has offices in Riyadh, London and Luxembourg, is a Shariah-compliant investor in public and private equities, commodities, income funds, and real estate assets. It has more than $5 billion worth of assets under management, of which $1.6 billion is managed through a platform based in Luxembourg.
The company devised its prudent ethical investing strategy in August last year, which it said was an integration of Shariah-compliant and ethical investing.
In terms of definitions of environmental, social and governance (ESG) investment products, Al Bashir admitted that there were still some vagaries around classifications, which is why the firm places its trust in the underlying asset managers to be doing the right thing.
"At this stage, we don't want to just enforce or dictate what kind of ESG we want to see because this is just the beginning," he said. "We do understand that this area is evolving and a clearer understanding, a better understanding, towards ESG will happen with time."
He said that the main filters currently applied by managers involve screening out sectors or activities deemed as unethical, using proxy voting to influence policies and avoiding companies whose supply chains have been associated with unethical practices such as the use of child labour.
"But we leave it to the managers to decide what kind of filters they use. What we are aiming to do in the future is to have our own set of guidelines when it comes to funds that are managed in-house."
Indeed, Al Bashir said that SEDCO Capital is considering partnering with a global investment manager to launch its own ethical equities fund.
"We are considering to co-launch an ESG-compliant product with one of the global public equity managers," he said. He added that this was at an early stage of development, "but it will be one of its kind when it comes to our beliefs around PRI," he said.
A fund with a theme
He said any fund developed would not be a "plain, vanilla equities fund" but would be based around thematic strategies, such as specific green sectors, companies or even countries.
The firm has also taken action on sustainability in alternative investments. For instance, in private equity, any investments in timber are only made from sources that are sustainable and, in real estate, the company looks to ensure projects are built sustainably, taking into account issues such as grey water recycling and the sustainability of supply chain goods.
"We have a minimum requirement that we've developed internally when it comes to acquiring (real estate). It also helps us when it comes to the saleability of these assets," he said. "The world is moving more and more towards this direction."
He argued that although some fund managers shied away from adopting ESG, PRI or even Shariah investing principles, if it reduces fund sizes, these responsible investment methods avoid risky investments.
For instance, although its private equity business, like others in the industry, uses leverage in a bid to boost returns, Shariah guidelines mean "we have certain limits of leverage we can’t exceed".
"If we use leverage, it has to be a Shariah-compliant leverage first of all, and then it can't exceed a certain level. What we try to avoid by being prudent is excessive leverage. Excessively levered companies are not in our investment universe, and when you look at the companies that have these high levels of leverage, they are the ones that are very vulnerable when it comes to market fluctuations. We saw a lot of damage that happened to portfolios that were exposed to highly levered companies during the crisis. During the good times, they do very well, but we always think long term," he said.
This means working with the general partners who run private equity funds to gain opt-outs from certain companies that do not match its investment guidelines.
Speaking during a panel debate at GIES, Al Bashir said SEDCO Capital had run an analysis on investments in public equities between 2007 and 17, comparing unrestricted index investments with responsible and Shariah-compliant indices.
"It was quite evident that prudent ethical and Shariah-compliant indices not only reduced the risk, but also improved the risk-adjusted return of portfolios during and after the crisis," he argued.
An ethical movement
A report published by Malaysian ratings agency RAM Ratings in July argued that there has been a surge both in the number of organisations signing up to the UN's Principles for Responsible Investing - to 1,961 organisations at the end of April this year - with Malaysia's sovereign wealth fund (Khazanah Nasional) and a government pension fund (KWAP) becoming signatories in February. It said that by the end of April, there were more than $81.7 trillion worth of assets globally under management by firms that were PRI signatories.
A note published last month by Charles Robertson, an analyst in investment bank Renaissance Capital's London office, argued that investors who are interested in ESG investments should focus their efforts on emerging, rather than developed, markets, despite the fact that emerging countries score lower on indices ranking countries' ESG performance.
The firm created a sovereign ESG index measuring indicators in 167 countries. Although it found developed markets achieved higher scores (between 80-90 percent) in terms of ESG ideals than emerging (60-82 percent) or frontier (58-83 percent) markets, the report argued that investors interested in achieving meaningful change should target emerging (EM) and frontier market (FM) investments.
"We understand that it might be easier to justify an investment in Denmark over the Ivory Coast (the worst ESG score in our universe), but, if investments do not flow to EM and FM, this ensures low ESG scores stay low for longer," the note said.
"If your goal is to improve ESG outcomes, then investing in EM and FM markets should be your first port of call, not your last. It is EM and FM that can see the biggest improvements in education, health, gender equality, corruption, the rule of law and governance overall. Refusing to invest, because countries currently have lower ESG scores than top-performing Denmark, will slow growth in EM and FM and leave investors complicit in sustaining huge social and governance inequality around the world," Renaissance Capital's note said.
(Reporting by Michael Fahy; Editing by Shane McGinley)
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