The booming market for sustainable investment products and solutions is impressive: the US SIF Foundation reports a 42% increase in sustainable investment assets to over $17 trillion, representing about a third of all assets under professional management. Individual investors are part of the engine of this growth, including, but not limited to, the oft-cited demographic profiles—females and younger investors—who indicate preferences for sustainable investing.
How then to explain the rolling eyes and just-perceptible shrugs that we have both witnessed in our conversations with financial advisors over these past few years? While some advisors have been leaders in including sustainable investing with their offerings, and still others have used this expertise as a key point of differentiation in a competitive market for advice, we find many advisors are somewhere between cynical and reluctant in committing to sustainable investing.
When we probe, we find some advisors who believe in their existing models and are loath to tinker with what has worked. Others are wary of venturing into the realm of client beliefs, politics and social attitudes for fear of distracting (or alienating) clients from the value advisors bring to financial and investment decisions.
The savviest advisors we’ve run across have figured out how to frame sustainability as an essential dimension of a financial strategy, a logical extension of the work most advisors already do to relate elements of clients’ lives to their savings, investment and spending plans. Personal financial planning is already a microcosm of “systems thinking.” Not all of the issues that prospects and clients bring to advisors are purely financial, but the skilled advisor learns to recognize the downstream effects of changing life circumstances (life “systems”) and devise financial strategies to manage the attendant risks and capitalize on new opportunities, usually over a significant planning time horizon.
It is that same kind of approach that can inform the investment strategies that advisors develop for their clients. Investing has evolved, from the pre-1950s focus on individual stocks and bonds, to modern portfolio theory that considers the risk and return of individual portfolio decisions, to factor-based investing that takes a more nuanced view of portfolio effects.
The jury is still out as to whether ESG (environmental, social and governance) “factor” investing strategies are durable factor exposures, but the typical advisor implementation of these kinds of strategies looks a lot like a factor approach: the advisor believes in the long-term risk/return profile associated with a factor (say, value stocks, or low-carbon stocks) and builds portfolios that tilt toward that factor.
But factor investing stops short of applying systems thinking to financial advice, and that’s the opportunity for advisors—to ground their practice with a holistic view aligned with clients’ planning horizons. As one of us (William) argues in the new book 21st Century Investing: Redirecting Financial Strategies to Drive Systems Change coauthored with Steve Lydenberg, investors should stop shrugging off consideration of what makes investment returns possible in the first place: healthy economic, social and environmental systems that are necessary for financial returns on capital. And while even the largest of investors can’t singlehandedly change a system, it is equally foolish to think that investor decisions and actions don’t matter to influencing the social, economic and environmental conditions that have very real impacts on financial results, especially over the 10- to 50-year planning horizons most common to individual investors. After all, investing is about channeling capital to its most productive and profitable use, and clients want a narrative that features their capital as more than a casino bet.
In this light, advisors should be less worried about veering out of their lane to discuss personal beliefs, and more willing to embrace sustainability as relevant and necessary to a client’s financial plan and portfolio strategy. Just as most client meetings don’t focus on the rationale for individual buy/sell decisions but rather on overall results and changes to the plan based on future considerations, portfolio management can evolve to consider how investor power is being used to support market returns.
As explored in 21st Century Investing, applying systems thinking to portfolio management often means taking several steps that aren’t financial at all, including thinking about where systems effects are likely to be most meaningful, and committing to using all the levers of their influence to steer systems’ evolutions. The book reflects years of inquiry as part of our work at TIIP, The Investment Integration Project, and offers investors insights about the initial and ongoing actions that can be taken to embark on a systems-level approach, including how to integrate this new way of thinking into a current practice: setting system-level goals, deciding where to focus, allocating assets, applying investment tools, leveraging advanced techniques and evaluating results.
Given the complexity of the systems and bespoke nature of individual investors, there’s no single right approach to incorporating systems thinking, leaving plenty of room for advisors to add demonstrable—and differentiating—value.
The past 50 years have brought welcome, healthy changes to investment management, from laser focus on individual securities to a broader view of portfolios and connections to client objectives and life circumstances. It won’t take another 50 years for the lens to open up even wider to explicitly consider how investors affect critical systems and what the related implications are for portfolio returns. Doing right by clients will require financial advisors to develop some new vocabulary, context and techniques to assure clients that market returns aren’t being left to chance.
William Burckart leads TIIP and is a fellow of the High Meadows Institute.
Bob Dannhauser is an asset and wealth management consultant, researcher, and writer, and a senior advisor to TIIP.