Written by Michael Lewis, Head of Research ESG at DWS
The Russian war in Ukraine has propelled the issues of “S” and “G” into the forefront of investors’ minds. From a social perspective, the invasion breaches international law and is an abuse of human rights.
From a governance perspective, it reveals what has been known for some time of the strong links that exist between Russia’s so-called private and public sector and the underlying risks these pose, for example in terms of facilitating corruption and promoting crony capitalism.
The war has meant investors need to not only consider the operations of its investee companies but whether or not these operations are related to the state and her agents. This is particularly true where companies are operating in autocratic regimes. We expect this may trigger a change in investor mindsets whereby the benefit of doubt or look the other way will be replaced by a greater examination of the role investments play in terms of social and governance outcomes.
We have seen western companies taking action to end their involvement with Russian entities. This shatters Milton Friedman’s shareholder primacy doctrine from the early 1970s, which stated that the only role of companies is to maximize profit. Rather companies will increasingly take into consideration Governance and Social components of the countries they operate in and with whom they do business with.
For sustainable investing, it means a shift in the assessment of social and governance factors with financial implications for sovereigns and corporates. Sustainability-minded investors will likely be mobilized to support open and democratic societies, which typically have lower levels of corruption and better working conditions.
The development of SDG-focused sovereign bond funds could therefore bring investors into a more active role in promoting peaceful societies and building strong institutions, which aligns with SDG16 (peace, justice and strong institutions). Sovereign bond investors could then become more vocal in engaging Finance Ministries to support national SDG strategies.
Sustainability factors are becoming even more important following the events in Ukraine. The western world has an opportunity to accelerate investment into renewable energy projects, energy efficiency and gain clean energy independence from Russian – and potentially broader – fossil fuel imports.
This will have considerable economic and political impacts given the reliance of the Russian economy on the fossil fuel sector and may have an impact on the external threat posed by Russia.
The definitions around ‘sustainable investment’ will also evolve. Yesterday’s decision by the European Parliament to define nuclear power and natural gas as green alternatives reveals the political nature of sustainability taxonomies. Energy independence is firmly at the top of the policy agenda in Europe. Investments in some arms and defense companies may also become acceptable in future sustainability frameworks.