Piyasi Mitra explores challenges and opportunities in private markets, from determining which sectors are most promising to gaining brownie points in the net-zero space.
The UN-convened Net-Zero Asset Owner Alliance says decarbonisation of private assets is a crucial step if its members are to meet their net-zero commitments.
Last year, it launched a “call to action” urging private market asset managers to follow specific actions for various asset classes. The guidelines covered a range of areas, such as governance structure and disclosure on portfolio greenhouse gas emissions, and financing the transition by seeking investments aligned with climate taxonomies.
A standard ‒ but unclear ‒ commitment for investors is implementing net-zero into private markets strategy by 2050, says Pension Insurance Corporation’s head of responsible investment, Cleo Fitzsimons, who explored the topic at the Private Markets Investor Europe 2023 conference organised by Clear Path Analysis.
Climate action
Responsible and sustainable investments are different, Fitzsimons stressed. “While responsible investors integrate ESG into all their investment processes, they may not necessarily include so-called non-ESG-friendly companies,” she said.
Sustainable investing, on the other hand, seeks out best-in-class ESG companies already performing well in the domain or across sustainable themes such as waste management, renewable energy, etc. “For instance, tools providing renewable energy solutions are often manufactured in countries facing human rights challenges.”
Identifying the most material drivers is key to a company’s net-zero strategies, she noted. These could be regulatory pressure, exposure to climate risks, aspiration for a futureproof portfolio, stakeholder pressure or keeping up with the trend.
Concentrating on most material ESG and climate-related areas “out of the public eye” is where private companies might find some of their best opportunities, said Fitzsimons, recommending that firms leverage stakeholder resources to build ESG capabilities.
Pension Insurance Corporation, for instance, is a member of both the Net-Zero Asset Owner Alliance and the Association of British Insurers. It tackles clashes between overlapping target-setting protocols by evaluating the crossover areas before prioritising, she explained.
Industry standards for estimating carbon footprints are paving the way for the resolution of the coverage-quality conundrum, said Fitzsimons.
“While responsible investors integrate ESG into all their investment processes, they may not necessarily include so-called non-ESG-friendly companies,”
For instance, the Partnership for Carbon Accounting Financials is an association of financial institutions working together to assess and disclose greenhouse gas emissions associated with their loans and investments.
“Consider getting your company’s targets validated,” said Fitzsimons, citing the example of the Science Based Targets initiative. This drives climate action in the private sector by enabling organisations to set science-based emissions reduction targets.
In private equity, she pointed out, one has a seat at the table for the ongoing discussion and might exert an influence by constantly working with the company. While the case for private debt is not as consistent, it still offers opportunities for incorporating sustainability requirements into terms and agreements.
To ensure net-zero implementation in a “just manner”, defining sustainable assets within the firm and ensuring positive impacts of ‘E’ don’t come at the expense of ‘S’, and vice versa, are important. “If you have board-level buy-in, shout about it to gain brownie points from stakeholders,” added Fitzsimons.
Use industry-approved key performance indicators for measurable outcomes, highlight examples, and link them to UN sustainable development goals to report on transparency and progress if feasible, she recommended. Additionally, consider adopting voluntary reporting before it becomes mandatory, as it provides a year to ‘find your feet’.
“Also, firms should consider third-party assurance as validation or inclusion in the annual audit.”
The UK economy
While the UK may avoid recession overall, sectors such as construction, retail, manufacturing and lower-income households may feel they are in a downturn, cautioned Suren Thiru, director of economics at the Institute of Chartered Accountants in England and Wales.
Data from the Office for National Statistics (ONS) reveal UK GDP increased by 0.3% in January 2023, the services sector being the main growth contributor.
“Short-term outlook for the UK economy has improved with a technical recession less likely as energy costs ease, but prospects remain on a knife edge with output flatlining rather than bouncing back,” said Thiru.
The “anaemic” UK business environment, a shrunken workforce post-Covid and tightening monetary and fiscal policies make the longer-term outlook “less rosy”, added Thiru.
“However, the impact of a flatlining economy, lower energy costs and favourable base effects should mean that inflation is materially lower by the end of 2023,” he concluded.
Asset classes
A panel on which asset classes and investment structures represent the best investment opportunities discussed the way forward for private market investors in 2023. Nenna Gilmour-Platt, head of investment strategy at Just Group Plc, said the liquid space looks particularly attractive and suggested private market investors explore opportunities in categories such as long-income property, rental income indexed to inflation or assets with “a green or social angle”.
‘Trussonomics’, the economic strategy of Liz Truss’s brief UK premiership, had been of little help, she added, and the slowdown in borrower appetite amid volatility and pent-up demand from lack of supply continues to pose a challenge in private markets.
Referring to the Truss government’s mini-budget last year that spelt disaster for pension funds by triggering a huge sell-off in gilts, she remarked: “Often, an increase in public market spreads can be an opportunity for us as long as we are entering in a credit-selective and disciplined way.”
Affordable social housing has undergone “quite a difficult period”, Gilmour-Platt continued, thanks to insufficient government support, the rental cap figure and the downgrade from AA to A sector. However, she highlighted the opportunity to pick up good-quality credit at interesting prices, emphasising the importance of “selectivity and good credit discipline”.
“If you have board-level buy-in, shout about it to gain brownie points from stakeholders.”
Referring to recent global turmoil, Chris Palmer, head of illiquid assets origination at the long-term savings and retirement business Phoenix Group, said that credit fundamentals are key during volatility. The biggest challenge for private markets is deployment size, and a standardised, consistent green rating framework is much needed, he added.
It is less about asset classes and more about sectors, said Royal London’s group investment operations director, Daniel Blamont. “Overall, infrastructure looks interesting amid legislative tailwinds in the US and EU,” he added. Another area where he thought investors could find opportunities was fixed income.
Referring to multiple regulatory changes in the pipeline, he talked about how firms need to rethink customer handling under factors such as the risk of charge caps, performance fees in the charge cap and more under the defined contribution pension changes.
“ESG labelling is a good incentive to weed out dodgy claims and for firms to consider restructuring certain funds,” Blamont concluded.
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