Investors are willing to explore alternative providers, but disruptors shy away from complex ‘S’ factors.
With spending on ESG data rising and forecast to reach US$1 billion this year, new data providers are launching “at pace”, making it difficult for institutional investors to understand the market and choose the right provider, says Mike Carrodus, founder and CEO of Substantive Research.
A UK-based research analytics provider to the investment sector, Substantive’s recent report found that 39% of the global ESG data market is supplied by firms launched less than five years ago. Thirty-seven per cent of providers are established data providers that have developed their own ESG products.
More than half (53%) of all the providers are generalists, providing data on environmental, social and governance factors while one third specialise in either E, S or G. “As the ESG process within asset managers evolves, shopping for data is likely to increasingly target specialists, as buyside firms look to create their own ‘special sauce’,” says the report.
Of the specialist companies, only 5% are targeted towards social data, with 70% specialising in environmental and 25% in governance.
“The growth in the market is incredible and continuous,” says Carrodus. “There is plenty of space for niche providers, but at the moment, asset managers – particularly those new to ESG investment and integrating ESG processes – are turning to established data providers.”
More established firms, on the other hand, are looking for differentiated data to prove their worth to clients and are testing, trialling and buying data from the niche suppliers. The majority are at the earlier stage, says Carrodus.
Complexity of measuring social factors
The lack of firms specialising in supplying data on social factors reflects the complexity of measuring the impact of these factors and until recently a lack of urgency, adds Carrodus. The scale and the depth of the Covid-19 pandemic has brought socially-related business practices to the forefront and during 2020 social bonds soared nine-fold to US$165 billion from the year before. Efforts to fund social causes such as healthcare, housing, socioeconomic advancement and other related projects to ‘build back better’ are likely to attract the attention of ESG data providers and should give the social factor a boost, says the research company.
Martin Buttle, Head of Good Work at responsible investment NGO ShareAction, says social data services can be improved, “but the absence of data should not be an excuse for no action”. During the past 18 months ShareAction has seen investors – both asset managers and asset owners – take an “extraordinary interest” in S topics. “The Covid-19 pandemic has underlined how societies and businesses are vulnerable to health-related shocks, and how our societies are reliant on low-wage key workers to continue to function,” he says.
There also has been a strong interest from investors in diversity, equality and inclusion issues as a result of the unequal health outcomes resulting from Covid-19, the Black Lives Matter movement, and the racism on display during the Euro 2020 football tournament, he adds. “At the beginning of the pandemic we saw 336 long-term institutional investors representing over US$9.5 trillion in assets under management sign a statement on expectations on the response to coronavirus, which emphasised the importance of protecting the vulnerable and ensuring social safety nets were maintained. Earlier this year we saw investors make unprecedented statements on the risks of insecure work, when 12 institutional investors made statements on not investing in the Deliveroo IPO.”
In July ShareAction, alongside the Investment Association and HM Treasury’s Asset Management Taskforce, convened investment leaders on the theme of Build Back Better. Here, large asset managers and owners agreed to step up their engagement across all S topics and ensure they are given equal weighting to environmental topics, building on a 20-point blueprint released last November to improve stewardship standards.
NGOs are among those actively taking a lead on generating decision-useful data on social factors. ShareAction’s Workforce Disclosure Initiative (WDI) aims to improve corporate transparency and accountability on workforce issues, provide companies and investors with comprehensive and comparable data and help increase the provision of good jobs worldwide.
Rosie Mackenzie, Corporate Engagement Manager at WDI, says the initiative is typically experiencing a 25% year-on-year increase in the number of responding companies. The geographic spread of responding companies is also broadening. In 2020 there were responders from 19 countries, including Australia, China, South Africa and Mexico.
“Responding companies disclose three times more information than is published in corporate reports and websites, and those taking part in WDI for the fourth consecutive year provide 40% more information than first-time responders. The WDI is reaching more companies every year and generating significant workforce data that’s not published anywhere else,” she says.
Closing the data gap
Incumbents are responding to growing demand for insights on social factors. Elena Philipova, Director, Sustainable Finance, at data provider Refinitiv, says the company has been working to raise awareness of the need to consider the implications of environmental measures on social issues. “We have received more queries about the social side of ESG this year and are starting to see more equal focus on social factors, so the gap is closing,” she says.
Social factors are much more complex to report on and analyse because they encompass many diverse topics and nuances. “There are aspects, such as gender diversity and workforce health and safety. that are more straightforward and measurement and data disclosure are clear for issuers and investors,” she says. “But there are also ‘softer’ areas that are more subjective and difficult to measure and quantify, such as the representation of disabled people in the workforce or respecting human rights in the supply chain.”
A lack of definitions and also sensitivity around data privacy and legal constraints can make it difficult for asset managers and asset owners to make sense of company policies and processes regarding disabilities, she says. “There are similar issues with supply chains and human rights.”
Rather than looking at the S factor holistically, Philipova believes breaking the problem down into smaller pieces – identifying the ‘low-hanging fruit’ – can help investors better understand social factors.
“I think the investment industry will be able to identify metrics for social factors, but not in the same way as has been done for environmental factors, where the Paris Agreement acts as an absolute benchmark to compare performance against and greenhouse gases are the agreed metric.”
Achieving a benchmark or standard for social disclosures that can be used by global investors active across different cultures and working practices will be much more difficult. “The investment industry is used to using alternative data and can use it effectively. This will enable asset managers to create more differentiation in the market – it’s over-ambitious to think everything can be fully standardised across global portfolios,” she says.
Regulating ESG data providers
The prospect of regulation of ESG data providers has generated mixed response. Carrodus says it could see financial regulators “end up in places they don’t belong”. He points to the thorny issue of market data regulation, which has been sought for decades and is “nowhere near to being solved”. If too much onerous regulation is imposed on data providers at this early stage of development it risks stifling innovation, he says.
“I can sympathise with people that think it would be better to work to some standards, but it is a very complex situation and there are different frameworks and regulations that would be difficult to impose on the market,” he says. “What is needed is a perfect balance between enabling innovation to grow but also providing a clear set of standards everyone can work to.”
A further regulatory development that could impact the provision of data on social factors is the European Commission’s plans for a social taxonomy. A consultation closed earlier this month, but it is unlikely to be introduced before 2025, in part to allow for mandatory reporting of social data under the plans Corporate Sustainability Reporting Directive and Sustainable Corporate Governance initiative.
Philipova suggests data providers should expect regulation to play an increasingly large role in the provision of environmental and social data to investors. “The EU’s sustainable finance initiative is pushing the industry beyond a tipping point and most regulators are now working around the ESG data problems and challenges, gathering resources and thinking through the issues practically,” she says.
“It made sense to focus on climate initially but we are now seeing more attention being paid to social factors and consultations around creating a social taxonomy to help the investment industry understand the importance of social factors.”