The Future Ain’t What It Used To Be
Jon Duncan – Head of Sustainability Research and Engagement, Old Mutual
Sustainability pundits might argue that the US major league baseball player, Yogi Berra, who coined the phrase ‘The future ain’t what it used to be’, was a far-seeing hippy who knew way back in the 1980’s that our vision of the future needed some rearranging.
In the same decade, the Brutland Commission defined sustainability as “meeting the needs of today’s generations without compromising the ability of future generations to meet their needs”. As far as definitions go, it’s relatively young when compared to the much older interpretation of investment, which is generally understood as putting “money” into an asset with the expectation of growth and/or income. Combining these two ideas is the challenge of sustainable investing.
The big issue here is one of time. Sustainability requires a multi-year time horizon, while investors are taking an increasingly short-term view. In light of this disparity, some argue that to reconcile these divergent timeframes requires a review of how a market economy measures the health of a nation in terms of growth.
One of the main measures of economic health is gross domestic product (GDP) in absolute terms, or GDP per capita as a relative measure. This is problematic since GDP does not effectively account for the cost of externalities. As a result, long-term systemic risks to prosperity, e.g. pollution and health, are not effectively “priced”. Without mechanisms to reflect these negative, unpriced externalities, our ability to steer the economy onto a sustainable path is compromised.
Consider a company whose product causes ill health. If the costs associated with the resultant ill health are not “priced”, the company profits at the expense of the consumer. However, when healthcare insurers and/or governments begin to pick up these costs, the economic system comes to the rescue by finding mechanisms to price these risks, either through taxes, price increases or limitation on market access (age restrictions/availability).
However, introducing the price of externalities into the market is no easy task, and is one that is usually accompanied by lengthy legal battles over issues such as the science of causality, individual rights, and informed choice.
Notwithstanding this, the perception globally is that sustainability risks are on the rise and have significant impacts on the stability of long-term economic growth. The World Economic Forum’s Annual Risk Perception survey asks respondents to name their top five risks out of a list of 31. The 2015 survey (10th edition) again confirmed that sustainability risks are material many of which exist as unpriced externalities.
Ten Global Risks
|
Rank |
Global Risk |
|
1 |
Fiscal crisis in key economies |
|
2 |
Structurally high unemployment/under employment |
|
3 |
Water crises |
|
4 |
Severe income disparity |
|
5 |
Failure of climate change mitigation and adaptation |
|
6 |
Greater incidence of extreme weather events (e.g.: floods, storms, fires) |
|
7 |
Global governance failure |
|
8 |
Food crises |
|
9 |
Failure of major financial mechanism institution |
|
10 |
Profound political and social instability |
Source: WEF Global Risks Perception Survey 2013-2014
The survey suggests that over the last 10 years business leaders are waking up to the idea that the externalities generated by our current growth model threaten our ability to generate stable long-term growth. The notion that our current engine of economic growth potentially holds within it the seeds of our own demise is a curious one that presents sustainable investors with a conundrum.
This was well illustrated in 2014, when the Mexican Government imposed a tax on the salt and sugar content of junk food and drinks. This was a bid to address an externality in the form of an obesity epidemic that threatened to increase an already-huge national healthcare burden.
The result of this was analysis quantifying the negative impacts on food producers, as well as the opportunity set around nutritious foods/natural sweeteners. So, in general, investors have a choice, they can take a downside risk approach and try to anticipate when and how companies will be required to internalise the cost of externalities, or they can look to the considerable opportunities that emerge from looking at the world through a sustainability lens.
The World Business Council for Sustainable Development has indicated that the market for solution providers in the low-carbon energy, water, sustainable food, education, healthcare and natural resource sectors could be between US$2 trillion and US$10 trillion annually by 2050.
Investing in assets that contribute to building a socially equitable, ecologically stable and economically vibrant society, while at the same time minimising externalities is, in essence, what sustainable investing is about.
For this to become mainstream, there is a need for cohesive action across the investment value chain, from issuers, asset managers and capital providers to exchanges and regulators.
Connecting the dots between the investments we make today and the quality of our future world is possibly one of the more vexing challenges for investors. Marrying the science of sustainability with the art of investing (or, perhaps, vice versa) may well one of the means to do so.
Contact:
Jon Duncan
Head of Sustainability Research and Engagement
jduncan@oldmutualinvest.com
