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Charlotte O'Leary, CEO and Executive Director, Pensions for Purpose

“We’re not talking about philanthropic investing in relation to pension funds. We’re talking about impact investing having a twin goal of positive impact alongside financial return”

Pension funds can be a powerful tool for climate action and are incredibly well-positioned to drive a wider integration of ESG and impact investment. At the end of 2020, pension funds held more than USD 35 trillion of assets worldwide, exceeding 2019 levels despite the headwinds due to Covid-19, according to Pension Funds in Figures.

Although there is a growing interest among pension funds in incorporating ESG to drive returns, challenges remain in many areas, from establishing the best measurement framework to use to the lack of regulation when it comes to validating ESG and impact investment.

This is where Pensions for Purpose comes in. With more than 250 members, the collaborative initiative serves as a much-needed bridge between asset managers, pension funds, and their advisers to encourage the flow of capital towards impact investment. Ultimately, it empowers pension funds to seek positive impact opportunities and mitigate negative impact risks.

We spoke with Charlotte O'Leary, CEO and Executive Director of Pensions for Purpose, about the opportunities and challenges facing pension funds as they look to incorporate ESG into their scheme management and decision making. She also shared her views on why – despite the presence of nearly 2.8 million Muslims in the UK, according to the Muslim Council of Britain – choices are still limited in the country’s shariah-compliant pensions market.

In addition to her leadership of Pensions for Purpose, O'Leary is a member of the Impact Investing Institute's Pensions Expert Panel, and an ambassador for the Transparency Taskforce, a campaigning community dedicated to driving up the levels of transparency in financial services around the world. She has more than 15 years of experience in asset management and has worked for well-known institutions such as Jupiter, Pictet and Cambridge Associates.

When did Pensions for Purpose begin its work and why was it established?

Pensions for Purpose was set up as an online platform in 2017. It was only in the beginning of 2021 that we set up Pensions for Purpose Limited as its own entity and that’s the point at which I became CEO. We now have a more formalized strategy with a board of directors and an advisory group, and we’re in a fully-fledged business mode trying to roll it out globally. The traction has been amazing.

Whether it has to do with the pandemic or COP26, the international agenda around getting capital to flow into renewable energy and the transition to a sustainable economy, means there are a lot of different forces including market appetite and growing interest and understanding. Also, because of the information age we’re living in, we’re finding that pension funds are behind because they meet quarterly, so they’re usually out of the loop. They rely on investment consultants that are often 12 months behind where the market is and that’s starting to create a bit of a strain.

We’re finding that many of them need independent advice because things have been shifting so quickly. That’s what we offer; we go in and we do training workshops for pension funds, afternoon teas and roundtables, and we have our member forums, which have had the greatest traction. We’ve got forums around the Paris alignment and impact investing, and these are very much action orientated.

It’s about getting pension funds to either sign up to the Impact Investing Principles for Pensions and demonstrate what they’re doing or to join member forums where they can share what they’re doing in a peer-to-peer environment. This is very important because I don’t think there is enough out there in terms of forums to bring pension funds together to share what they’re doing. I think it happens a bit in a vacuum.

We’re working with government, consultants, insurers, pension funds, and we do this globally, but primarily in the UK. We have some European and Canadian pension funds, and Australian superannuation funds, and we’re starting to look at the Middle East.

How are you supporting pensions funds in incorporating ESG and impact considerations into their investment strategies? What are your initiatives in this area?

Essentially everything we do is around education. We do customized training workshops with pension funds, looking at the spectrum of capital, including everything from responsible investing to impact investing, helping them to understand the investment thesis and case for that. Much of the problem is around judiciary duty and also misunderstanding of how you can do impact investing. A lot of it has to do with the fact that people think about ESG processes. ESG processes effectively mean that you can still invest in a tobacco company that has a good carbon footprint and treats its workers fairly, but the ultimate output is poor for society.

What we’re trying to do is get them to think of ESG processes and ESG outcomes. You can’t really disaggregate the two things, but we’ve tended to do that, and that’s what impact investing is about. It’s saying that you need to have good ESG processes, but you also need to understand what the impact is on the environment and society of what you’re investing in.

Then we go a step further and say, if you want to pursue that, what do you use? We tend to look at the SDGs and we help pension funds embed these in their investment policy statements. We engage with them and work out what they think it’s investable to build a case around that and then invest in it. So, it’s not just a case of education; it’s working hand in hand with them to try to embed that in the process. The events we hold are all about showcasing how you can do this. Whether it’s investing in private investments, natural capital investments, renewable energy, or social and affordable housing, we’re helping showcase how this can be done as an institutional investor.

We’re also trying to break down barriers, which are often structural. Investment consultants actually aren’t that well-educated on what exists on the marketplace, so we also work with the investment consultants. Pension funds are mandated to take advice from investment consultants. We work with the Investment Consultants Sustainability Group for example, and we talk with them about the different types of impact measurement frameworks. We also work with bodies like the International Finance Corporation of the World Bank Group.

There are lots of different voluntary frameworks – actually more than 50 – and that’s part of the difficulty - nobody knows what everyone’s doing. Everyone wants to know which horse to back but they’re not sure. People are making decisions on an individual basis. We as a platform are trying to showcase what pension funds are doing as best practice to their peers, so we can start to create a common language for talking about ESG and impact investment. People think if they’re doing responsible and ESG investment, then that’s going to have good outcomes, but not if you’re investing in a tobacco company for example.

A few weeks ago, I did a deliberative democracy exercise with Natwest’s pension fund, and I spoke to members about the differences between ESG processes and outcomes and that was very interesting. Because not a lot of the members or trustees understood the difference, and that can be between deciding whether your pension fund is making allocations to social and affordable housing and EV infrastructure or investing in a carbonated soft drink corporation. These are big things, and they have significant amplifications.

Our forums have been set up to catalyse action. The Impact Investing Adopters Forum is getting pension funds to sign up to the Impact Investment Principles, to pledge that they will set impact objectives, align their objectives with consultants that they choose, align their stewardship activities with that, and measure the outcomes.

So it’s more than education; it’s getting them to sign up. The investment consultants have to sign up as well and so do the fiduciary managers – asset managers managing the assets on a delegated basis. We can all talk nicely about all the things exist in the marketplace, but unless you actually get people to sign up to something and get them to demonstrate it, you’re not going to see any action.

How many members does Pensions for Purpose have at the moment?

We have about 135 affiliate members; 114 influencer members, including investment consultants and asset managers; and over 30 network supporters; that includes organisations such as IFC, World Bank Group, Make My Money Matter, Global Impact Investing Network, and the Institutional Investors Group on Climate Change (IIGCC).

What we recognize is that you can’t get action to happen unless you collaborate with other groups. We’re not trying to do this on our own, we’re operating in a non-compete way. Part of the issue we’ve had [in the industry] is that there’s friction between models and frameworks that people are using. We need to collaborate and find a consensus.

Pension funds are ideally positioned to incorporate ESG values, and they could be a powerful force in getting companies to embrace such principles. From what you’ve seen lately, to what extent are pension funds driving ESG investing?

Initially, the only pension funds that were in the responsible investment space were entities like the Environment Agency Pension Fund, and Church of England Pension Fund, as you would expect. The difficulty with that is that most other funds were thinking ‘Well I’m nothing like that, I’m not the Church of England, I don’t have those same morals’. I think people mixed up what ESG and mission-related investing is, and there’s a big difference.

ESG is about fundamental systematic risks and opportunities that aren’t down to your own preference. In my view ESG, is not something you should choose, it’s something that’s fundamental to your investing, whereas you can decide you don’t want to invest in gene therapy for moral reasons; that’s entirely different. We’ve mixed up these things, and that’s where education comes in.

But what we’ve seen in the last year or so, when we speak to pension funds on our platform, they’ve gone from saying ‘we want to be responsible investors’ to ‘within the next three years, we would like to be doing impact investments, we want to make a positive contribution to society and environment, alongside the financial return’.

So we’re not talking about philanthropic investing in relation to pension funds. We’re talking about impact investing having a twin goal of a positive impact alongside financial return. That’s really positive change. What I would put that down to is regulation, such as the mandating of Task Force on Climate-Related Financial Disclosures (TCFD), and ESG considerations within investment policy statements, and statements of investment principles.

And it’s not just on the pension fund side. In the asset management side, there are far too many asset managers who have been putting together active products, and I think people have been seeing through it. People have been seeing the risk-adjusted returns which is great. But there’s been a lot more in the market on whether active management really offers good returns, for the fees that they charge.

The issue with that is asset managers have been re-positioning themselves because they recognize they’re in a very competitive environment and ESG and impact investing particularly offers them a marketing opportunity. It’s brilliant in the sense that it highlights it, but it creates another problem which is greenwashing. As soon as that happens, we start seeing things like Sustainable Finance Disclosure Regulation (SFDR) come in, because we’re trying to understand whether a product is what it claims to be. This is a problem; there’s no regulation whatsoever and no way of validating ESG and impact investments. Yet there’s no sense of going backwards.

We’ve seen documentaries by David Attenborough and World Wildlife Fund, and ‘Kiss the Ground’ documentary where we really understand the impact of agriculture and mechanization and how these are throwing carbon into the atmosphere. The more educated we are, the more we understand the risks and opportunities.

Part of the difficulty is that these things aren’t priced into the market. So there is growing awareness, and even with the oil companies, we’ve started to see the impact from their balance sheets. BP has rebranded itself as Beyond Petroleum. Mining companies are starting to struggle as a result of institutional investor groups coming together and challenging them on their practices. There’s a real sense of people power, that you can collaborate to cause a significant change, and that’s growing all the time. Then you’ve got the regulation, so there are a few forces coming together.

Also, we have to factor in the concrete research links between diversity and ESG. Most pension trustee boards are white males over the age of 60. Because we’ve started to see a change in diversity on the boards of trustees, that’s going to have an impact as well. We (at Pensions for Purpose] are an almost all-female company and there’s a reason why – a lot of women are attracted to this agenda particularly, and a lot of people from diverse backgrounds because it matters to them, and they’re often underrepresented. When we talk about ESG, effectively it’s about underrepresentation. There’s a massive link between those things.

The growth of ethical and sustainable investing has sparked a debate over whether investors sacrifice returns when choosing ESG funds. From your observations, is the integration of ESG principles significantly enhancing pension performance?

We’ve got an asset manager that works with us, it’s a B core that’s been doing impact investing for decades, it’s completely woven into their business model, and as a result, it percolates into their investment process. It’s difficult because we’re talking about ESG, so it isn’t necessarily ethical issues always that we’re talking about.

In terms of the supply chain, how you treat workers, having correct governance processes in place, such as separating the chairman function from the CEO, better worker representation – all those sorts of things should be factored in, but also the outcomes, such as the impact on the environment and society. I think companies applying these things are doing better.

Accounting standards and practices are changing. The more transparency you have on companies, it’s going to highlight more risks and opportunities. I don’t think it has happened till now; you would’ve seen a massive difference in returns. But I think we’re going to see this difference as a result of transparency, as soon as those things are understood by the market they’re priced in, and we realize there’s a greater cost of capital for doing business for mining firms for example, because of the regulation and legal issues. The problem is that it’s going to take a little bit of time.

The reason why you want to make sure you have a business that understands that and getting ahead of things now, is that we don’t know exactly when that’s going to be priced in, but we know it’s going to happen. I’m cautious about saying we’ve seen outsized returns across the board, but you’ll definitely find that’s the case with some funds.

A survey by Islamic Finance Guru found that one-third of Muslims in the UK do not have a pension due to the lack of shariah-compliant pension options, missing out on an estimated £12.8 billion in savings for retirement. Another report, by EY, found that global demand for shariah-compliant pension funds could be as high as £138.1 billion. Why aren’t more pension funds tapping into this opportunity?

There are two issues here. I would take it that we’re looking at defined-contribution pension funds for this; because defined-benefit doesn’t necessarily engage with members in the same way to provide options, and obviously what they’re doing is largely liability management. So you’re not going to see that in a defined benefit space.

But in terms of people investing now – in defined contribution schemes – the issue they have is that more than 95 percent of membership will go for the default option, and the default option will never be a shariah-compliant option. Then the question is - what do you provide as separate options given there will be fees and costs related to that? And will you get substantial numbers or enough to justify having those separate options. So you’ve got a bit of a chicken and egg problem. If you don’t go out to the membership and ask what they want, then you’ll never know what those numbers are. Many of the trustees don’t go out to the membership, but also, they don’t necessarily represent those groups. We’re meant to rely on trustees being representative of the membership.

Part of the problem is that we’re not doing enough engagement with the membership. A lot of it also has to do with culture. There’s a sense of the issue that ESG/ethical investing and doing things from a religious perspective that trustees struggle with. Does that mean we’re now sacrificing returns, and should we therefore be offering that option? How do we make that decision? A lot of it has to do with a lack of education but also a lack of understanding of the opportunities on the marketplace. That’s what it comes down to. The pension funds that have decided to bring [shariah-compliant options] in, are usually people who want to invest in that themselves. The pensions manager has either put it in place previously or they have an interest in it and thus prioritizing it according to their own individual preference.

Some experts suggest that ESG funds come at a slight premium compared to their traditional counterparts due to the extra levels of due diligence involved. Is this a misconception? If not, can the higher fees be justified to investors?

In my view, ESG is the cost of doing business. We haven’t recognized these factors before, so we do need to build it in, and as a result of that, there’s more analysis involved. Someone has to take the cost of that. In the United States, it’s the investor/ asset owner. In Europe, because of MiFID II regulation that’s come in, it’s the asset managers that are taking on the full burden of that. So how do they pass it on? They’ve got to pass it on in some way. If you’ve got an asset manager that entirely believes in this, it’s the cost of doing business for them. If it’s a large asset manager, who has both impact/ESG products and non-ESG products, that’s a concern for me, because everything should have a baseline of ESG built into in.

My concern is that we’ve made ESG outcomes related to the profitability of asset managers. If the asset owners don’t say ‘I’m willing to pay something in order to ensure this research is done’, then it’s down to the asset manager. We’ve been running in a bull market, so that can work out for asset managers. But what happens when we enter a bear market, and they’re having to cut costs? Where are they going to cut costs? My concern is that it will be ESG research budgets because that’s where the significant pressure is.

That’s why it’s really important to understand how an asset manager thinks about this. Is it entirely embedded in all their investment products? Or is it something they do with one portion of their product? It’s definitely a concern and comes back to the greenwashing and impact-washing areas. They should be doing this because it’s a risk to their very business model. We also have to understand that they’re in a competitive environment so if we want asset managers to change, asset owners have to contribute. It’s about getting that balance right.

You have been working on a project with the Impact Investing Institute on the launch of a legal paper detailing the compatibility of fiduciary duty with impact investing. Can you tell us more about this project, what it will involve and who will it benefit?

We worked with the Impact Investing Institute on the Impact Investing Principles for Pensions, which is what we’re getting pension funds to sign up to. When pension funds invest, they have an impact on the environment and society, whether positive or negative. The reason why we’re concerned is that there’s a proliferation of asset managers saying they’re doing impact investing but there’s no standardization around the measurement frameworks for that. Then we’ve got some pension funds who are doing it, but again, no standardization.

The first thing the Impact Investing Institute wanted to do was to break down some of the conceptions around the compatibility of fiduciary duty with impact investing, and the idea that you’re sacrificing return. They used a legal panel and also took it to the Association of Pension Lawyers, and had it signed off by them.

Our research found that there’s nothing that prevents a pension fund from doing impact investing, where it has a material financial impact, whether that’s a risk or an opportunity. In fact, there are cases to suggest that you should be factoring this in. That then, stood as a foundation for the Impact Investing Principles, which are four governance principles for how pension funds can put in and process impact investing. First, setting impactful objectives. Second, appointing investment consultants and managers with impact integrity. Third, how do you use your voice to make change, and align your stewardship activities to your impact objectives. Lastly, how do you measure your impact.

The idea behind this is that there is a gap in the market. There are pension funds that are setting different SDGs and net-zero targets, but none of them are speaking to each other. They’re setting different targets and then going out to managers and saying, ‘We want to reach net zero by 2030’, and the managers are saying ‘our aim is to reach net zero by 2050’. Well then those are incompatible. Our aim is to get all of those groups to talk the same language; otherwise, we’re not going to be able to reach our objectives.

More than 50 percent of impact investors use the SDGs to set objectives, but they don’t use them to measure those objectives, because obviously they’re quite intangible. There are a host of impact measurement frameworks. What we did is we set up the Impact Investing Principles and a forum to discuss how the measurement frameworks work, to talk about what people are primarily using, and what works for pension funds. We went further in that we got people to sign up and talk about how it’s working for them so we can evolve the principles on an ongoing basis to make sure they’re relevant. We also go to government and talk to them about what we’re seeing in the market, so we can start to plug the gap that exists.

Is this a method that you could roll out to support governments in other areas of the world? For example, we’ve seen a real determination from countries like Saudi Arabia and Oman to align with the SDGs in their investment strategies and economic plans. Perhaps this kind of support could help them understand how to work with stakeholders in the market, to expedite this process. Is this something that Pensions for Purpose could roll out and if so, how do you see that working?

We focused on UK regional because it’s most relevant to UK pension funds, but the idea is that this becomes a model for how to do this anywhere else. Because if we don’t invest in developing and emerging markets now, it doesn’t matter what we do in developed markets.

Part of the issue is that people are focusing particularly on the UK and Europe and other developed markets for the SDGs, not on developing countries. That also has to do with the asset-allocation models that investment consultants use. Most UK pension funds are heavily home biased in terms of their investments; they’re usually focused on UK real estate and UK equity. We need a change in that mentality.

We’re trying to work on the ground to demonstrate how you can bring the different actors and use that as a model in any other market. Obviously, you would have different regulations and types of standards, but it would give you a model for saying this is the language you need to use, this is how you put the product forward, broker and structure it. I think that could be helpful in any jurisdiction. None of these people speak the same language or understand the hurdles, so what tends to happen is that they just disengage.

We’re trying to step in between that. We’re not trying to compete with any other entity, being an independent group helps. What we would do is that we’d have the Place-Based Impact Investing Forum and then we’d have subgroups of that for different markets and regions.

I worked with Cambridge Associates for a number of years and as part of that, I worked for their Middle East practice. We worked with the National Investment Corporation of Kazakhstan, with Saudi Aramco, and many other entities in the region. The difference is mainly the culture and how you go about having the discussions; you have to be politically sensitive. So whatever model we put together for the UK is not necessarily going to directly transpose onto that. What we hope is that it gives a kind of direction.

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