A $1.4 Trillion Fund’s NGO Ties Shed Light on Social Investing

(Bloomberg) -- As fund managers everywhere adapt to environmental, social and governance investing principles, there’s a growing consensus that the “S” in the acronym ESG leaves the most room for misinterpretation.

But a unique setup in Norway may help provide clarity.

Norges Bank Investment Management, the world’s biggest wealth fund with $1.4 trillion in assets under management, is about to update its approach to dodging ESG risk. The idea is to screen companies before they’re added to the portfolio, rather than just relying on indexes.

Amnesty International, which along with other non-governmental organizations and lawmakers provides feedback to the fund, says the process offers an opportunity to find out which ethical considerations the S in ESG should encompass in the absence of clear regulatory guidelines.

Ina Tin, a senior adviser at Amnesty in Oslo, says the work being done in Norway is unlike anything she’s seen elsewhere in the world. The “size of the wealth fund makes our work in Norway quite unique,” she said in an interview.

The Norwegian wealth fund owns more stocks than any other investor on the planet. To manage risks such as human rights abuses, it holds thousands of annual meetings with corporate boards in an effort to keep its portfolio free of ESG duds. The rationale is that ESG risk ultimately translates into financial risk, which means the fund may need to divest to safeguard returns. (A separate ethics council recommends whether a company needs to be blacklisted, irrespective of financial considerations.)

Nicolai Tangen, a former hedge fund boss who’s been chief executive of the wealth fund since September, says he expects the pre-screening process to start in the second half of this year. By then, Tin at Amnesty says the fund ought to have provided answers that show how it will screen for the S in ESG before letting a stock into its portfolio. The fund has already explained that it looks at human rights, children’s rights, corruption and tax avoidance, but Tin says much more detail is needed.

‘A Bit Messy’

While the E in ESG is relatively well defined within the European Union’s emerging regulatory framework, the S still has investors and corporations guessing.

“Some metrics available today are just so bland, things like staff turnover ratios, or gender ratios,” said Janine Dow, a senior director for sustainable finance at Fitch Ratings in London. Part of the shift in perceptions will be guided by activism, “and perhaps this might achieve change,” she said. “But current metrics are all a bit messy. We don’t really know what to look at.”

Monsur Hussein, a senior director for financial institutions at Fitch, says that unlike measuring environmental risk, which tends to be science based, social risks will emerge as the public reacts to revelations of misconduct. He says the “social element in the context of litigation risks” is potentially where “we’ll see a dollar or a euro value attached to those issues.”

Carine Smith Ihenacho, chief corporate governance officer at the wealth fund, says it’s “quite clear that the S” in ESG “is in many ways harder to quantify” than the E. And it gets even more difficult when an investor holds so-called transition stocks -- companies that don’t yet live up to ESG goals, but have promised to improve. Norway’s wealth fund acknowledges, for example, that it invests in companies that are exposed to child labor via their supply chains.

Norway, where the government and parliament set the framework within which the wealth fund invests, recently proposed a more stringent set of rules to limit its exposure to sustainability risks such as human rights abuses. Part of that entails a more skeptical approach toward emerging markets.

Tangen says he’s keen to move ahead with pre-screenings. In recent public comments, he also said that “it’s not just about making money.”

Whatever model Norway ends up with, Tin at Amnesty says that ultimately, “the S in ESG depends very much on civil society speaking up.”

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