Focusing on ESG as a means of adding value for clients, rather than just a regulatory tick-box exercise, has to be the way forward for wealth managers, one expert argues.

Don’t fall into the trap of incorporating Environmental, Social and Governance (ESG) data just to satisfy regulatory requirements. It’s important to remain compliant, but ticking those boxes just for the sake of it doesn’t always create a value add for your clients, explains Anastasia Georgiou, Director of Client Solutions, Adviser Segment, at Morningstar Europe.

This piece forms part of this publication's new report "Technology Traps Wealth Managers Must Avoid 2022," published in partnership with EY, which is available for complimentary download now.

As wealth managers, you know more than anyone that when clients invest, they think less about percentage growth and more about realising their financial goals. For many, a sustainable future will be a part of this. That’s why building meaningful ESG data into your investment and advice processes and communicating this with your clients can have a strong, positive impact on client engagement. 

It can be easy to forget this amidst the myriad of new sustainability regulations that are making things that bit harder though. Most notably, regulations introduced through the EU Sustainable Finance Action Plan means wealth managers have more stringent requirements on their plates in terms of how they report and use sustainability data. 

As two key components of the Action Plan, the EU Taxonomy Regulation came into force in January 2022 and requires managers to calculate the Taxonomy alignment of their ESG funds, while the Sustainable Finance Disclosure Regulation (SFDR) that started to take effect in March 2021 requires managers to disclose how sustainability risks are considered in their investment processes, including those that might have negative effects on sustainability factors (or Principal Adverse Impacts [PAIs] in the regulators’ jargon).

In tandem with the Action Plan, amendments to the Markets in Financial Directive (MiFID) II and the Insurance Distribution Directive (IDD) mean that from August 2022, a client’s sustainable preferences must be included in the suitability process too. 

Combining all of the above, that’s a lot of box-ticking that needs to be thought about.

Thankfully though, client demand for sustainable investing is increasing. Whether it’s the latest David Attenborough documentary or a stronger societal conscience born out of the Covid-19 pandemic, people have become more sustainability conscious and use purchasing power to support businesses that have a positive impact on the environment. It’s no surprise that many want to adopt a sustainable approach to their finances and uncover the environmental risks associated with their investments.

For wealth managers, juggling sustainability data to meet regulatory requirements while adding value to the customer experience requires a fine balance. Here are some tips to help you avoid common pitfalls. 

Don’t be overwhelmed by the explosion of data    
Sustainable investing is an evolving space – new data is being made available daily and even the non-regulatory data in the marketplace is being enhanced to reflect the progress in both disclosures and research. 

As an example, at Morningstar we’ve recently enhanced the Sustainability Globe Ratings to include sovereign ESG risk which has expanded our ratings coverage by 30 per cent. In line with the EU Action Plan, we’ve also been working on taxonomy alignment data for ESG investment vehicles, and additional reporting at both company and fund level on SFDR, including PAI impacts. 

Many of these regulatory data points and others will be made available in a new European ESG Data Template called the EET, developed by the European Working Group (FinDatEx) which is expected to be ready later in 2022. The template will cover all European regulatory data sets as well as further data aimed at helping advisors to better define the suitability of their investments based on a client’s sustainable investment preferences. 

While all of these developments are undoubtedly positive, given that this might amount to over 600 new data points, how do you avoid becoming overwhelmed? 

Start by looking at your firm’s approach to sustainability and how you want to develop your proposition. There is a great deal of sustainable investing data at your disposal already, and you can find similar data points to those coming along in the pipeline. Almost 30 per cent of EU funds, for example, are now classified as an Article 8 or 9 fund in line with the SFDR, meaning that they have either ESG integration or an ESG focus.  

Morningstar has a range of different data sets across ESG risk, carbon, product involvement, sustainable attributes, and qualitative assessments of fund managers. We can provide additional look-through data based on our full holdings database and Sustainalytics’ company and sovereign ESG research, to find the right insights that meet the needs of your firm and your clients.

Remember that you can build out your approach to sustainable investing and advice, iterating and improving from a more informed standpoint as more data becomes available. Waiting for the perfect data set is not a reality. 

Put your customers at the heart of the proposition    
Your clients are probably more interested in sustainable investing than you might think. Recent research from Boring Money indicated that 83 per cent of investors would value a conversation with an advisor about investing sustainably, and 40 per cent say tjat the Covid-19 pandemic has made them consider it even more.  

Morningstar also conducted a study with Boring Money to gather feedback from UK retail investors on the use of sustainability data within reporting. From “eco warriors” at one end of the spectrum to those purely focused on returns on the other, results confirmed that in order to provide meaningful ESG data to clients, a thorough understanding of their motivations was essential first.

To what extent is your client environmentally and sustainability conscious? What is the objective of their current or proposed investment, and how is it meeting its E, S, and G considerations? 

Avoid getting caught up in regulatory framework and jargon – most investors will not want to be presented with taxonomy alignment metrics, or Article 8/9 data. They will want digestible, easy-to-understand insights instead. Things like investment objective, third-party validation metrics, explainer content, visuals, and context, go a long way. 

Putting you customer at the heart of the integration and adoption of ESG within the business will help you to improve personalisation, develop trust and portray integrity – all actions that improve the client experience. 

Get ahead of the digital disrupters  
You can be certain that the digital disrupters in the wealth industry will already be on top of points one and two. They will be pushing ahead with what’s available, iterating over time and not becoming lost amidst the explosion of new data.

Disrupters are predominantly providing a digital or hybrid advice solution, which makes the customer journey that much more important. These firms are totally customer-focused when developing their solutions, taking time to listen to their clients and sharing these insights with the wider business. They won’t be regurgitating regulatory data points either – they’ll be listening carefully to individual needs and translating what is required from a regulatory standpoint into an accessible, human solution. To stand a chance of competing in the ESG space, you’ve got to be doing the same. 

Incorporating sustainability data into your investment and advice processes is now a necessity. While firms will continue to be challenged from a regulatory standpoint as disclosures evolve at pace, remember not to lose sight of your clients. One person’s ESG goals and objectives will differ entirely to another’s and trying to meet all of these ambitions highlights the need for diversification of products, information, and most importantly, how it’s communicated. 

About Morningstar  
Morningstar, Inc is a leading provider of independent investment research in North America, Europe, Australia, and Asia. The company offers an extensive line of products and services for individual investors, financial advisors, asset managers and owners, retirement plan providers and sponsors, and institutional investors in the debt and private capital markets. 

Morningstar provides data and research insights on a wide range of investment offerings, including managed investment products, publicly listed companies, private capital markets, debt securities, and real-time global market data. Morningstar also offers investment management services through its investment advisory subsidiaries, with approximately $260 billion in assets under advisement and management as of September 30, 2021. The company has operations in 29 countries.

Learn more by viewing Morningstar’s EU Sustainable Finance Action Plan Resources and reading about the sustainable investing approaches we can support.

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