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Corporate Research 9 October 2017

Contents

The death of dirty investing 1

Sustainability: A value-creating disruption 2

Not sustainable is not an option for institutions 4

Interview: Average life cycle now just 15 years 12

Interview: Pensions require sustainability 17

Quotes from Sustainable Finance Conference 22

Interview: ESG is a major share price driver 23

Ambitious ESG policies, still negative screening 28

Disclaimer and legal disclosures

Nordea Markets and Nordea Corporate & Investment Banking


The death of dirty investing

Sustainability has become mandatory for investments by Nordic institutionsIn April's Nordea On Your Mind ("Going Green and Coming Clean"), we looked at sustainability in the corporate sector, estimating how much ESG failures have cost listed Nordic companies, noting that the extensive costs (16% of one year's EBIT for the affected companies!) represent a strong commercial incentive to ensure corporate processes and governance that support a strong ESG performance. In this report, we review Nordic institutions, and find that 99% of Nordic institutional assets under management already incorporate some form of ESG policy.

Institutional ESG policies are seeing rising sophistication and levels of ambitionWe have made an in-depth analysis of a sample of 63 Nordic institutions, which together represent EUR 2.8tn of AuM, categorising the ESG policy for each fund of every institution on a simple scale from 0 (no ESG policy) to 4 (positive and negative screening, and voting engagement). 47% of AuM falls under the most ambitious policy type, while only 4% is in the simplest (negative screening) category, and 1% has no ESG policy. In the past five years, the ambition level has grown only slightly for fixed income assets, having been overtaken by strong growth for equities.

It is no longer about ticking boxes or image, but about value creation (or avoiding value destruction)As Nordea's Global Co-Head of Corporate & Investment Banking Mathias Leijon describes in his introduction to this report, sustainability can be seen as an example of "creative destruction", forcing the re-shaping of corporate business models, but also creating new opportunities and profit pools in the process. The messages from the speakers at Nordea's sustainable finance conference in Stockholm on 22 September left no doubt that sustainability and ESG has entered the mainstream and is increasingly seen as a critical fundamental business issue. A strong historical focus on environmental issues in the region is evolving into a view of sustainability as a gauge of a business' resilience to disruption from technological innovation, poor governance or changing consumer behaviour. Investors see sustainability as a must for a business to be able to thrive, or even to simply survive potential future shocks.

ESG plays a significant role in share price performanceIn a Strategy & Quant report published on 5 September, Nordea equity analysts Elias Porse and Hugo Fredriksson concluded that ESG matters greatly for both the operational and share price performance of Nordic companies. Relative performance between top and bottom ESG performers differed by as much as 40% in 2012-15, and they proved no correlation between ESG and other quant factors, meaning a combined investment strategy of going for quality and high ESG scores can deliver strong outperformance compared with the broader stock market.

Shared insights: Interviews with Fidelity, Storebrand and Nordea's analystsIn this edition of Nordea on Your Mind, we interview Paras Anand, Chief Investment Officer, Equities, Europe at Fidelity International, on how sustainability features in investment decisions and decides the future for companies. Jan Erik Saugestad, CEO of Storebrand Investment Management, describes his institution's journey from being a very early ESG pioneer to a current award-winner and world player in the field, and how all investing might be sustainable in the future. From Nordea, Elias Porse and Hugo Fredriksson share the key findings from their ESG-themed Strategy & Quant report mentioned above.

Total Nordic AuM by ESG policy (incl Norwegian oil fund) for

2012-16

0

500

1000

1500

2000

2500

3000

2012 2014 2016

Au

M E

UR

bn

Positive screening, negativescreening and votingengagement

Negative screening andvoting engagement

Negative norm basedscreening

No screening (1% resp. 1%)

59%

62%

37%35%

3% 3%

Source: Company data and Nordea Markets

Total Nordic AuM by ESG policy (excl Norwegian oil fund) – 2012-16

0

500

1000

1500

2000

2500

3000

2012 2014 2016

Au

M E

UR

bn





47%

45%

50%49%

4% 4%


Nordea Markets and Nordea Corporate & Investment Banking 1


Sustainability: A value-creating disruption

Mathias Leijon, Global Co-Head of Corporate & Investment Banking at Nordea, gives an introduction to

our second ESG-themed Nordea On Your Mind, by sharing some thoughts on why sustainability has

become such a prominent force in the Nordic region, how it might affect the Nordic corporate sector and its

use of capital markets for funding, and what role Nordea can play to promote and help adopt it.

JT: Our analysis in this report shows that sustainability has become virtually mandatory in Nordic institutional investment policies, and that ambition levels for how to invest sustainably are rising. What do you think has pushed sustainability so high on the agenda in the Nordic region?

ML: The Nordic region has enjoyed comparatively high degrees of political and regulatory stability for decades, and combined with this, its home markets are fairly small, which enabled Nordic corporates to expand globally very early. This was achieved through co-operation between corporates and banks. Creative destruction, as the famous economist Schumpeter labelled it, is not new. We have seen it in the past, and I am sure we will see it time and again going forward, with major changes to the key components of economic output, GDP.

Historical examples in the Nordic region include the demise, downsizing or restructuring of industries like apparel, shipbuilding, mining and steel. However painful these transition periods have been, the point is that the Nordic region has prospered and adapted to every transition successfully, and in the process has repeatedly added new areas where its governance model, entrepreneurship, quality awareness and culture of consensus-building and partnership have gradually created entirely new opportunities and profit pools, driving both GDP growth and prosperity, as well as stimulating the building of leading global franchises for many Nordic large corporates.

Nordic equity markets are global rather than Nordic, and top tier for value creation and shareholder returns

I am actually surprised it does not seem to be more widely known that the Nordic equity markets are in the global top tier in terms of both value creation and generating shareholder returns. In my previous professional role in asset management, I often came across investors that believed they had a choice between a global fund or a Nordic fund, with the Nordic fund only giving exposure to the Nordic economies. In fact, the Nordics are arguably the highest-quality investment play on the world economy, with its governance model and quality mindset, essentially meaning substantially lower risk but higher potential returns. I think this is something we in the Nordic region should be very proud of!

Sustainability could mean further creative destruction, reducing risk and creating new markets and jobs

I expect sustainability will become yet another of these successful transformations, where we collaborate and create something new which will both reduce risk for both individual corporates and for the cash flow being generated, with entirely new market segments created in which Nordic corporates can continue to grow and generate new job opportunities. This is in addition to giving Nordic corporates the chance to take a global lead in creating lasting change for the common good.

JT: What attitude to sustainability do you see among Nordic large corporates today? Do you think a Nordic large corporate approaching sustainability reactively, aiming for the minimum possible effort, will still have access to capital markets funding in five years?



A Nordic corporate with no ESG commitment might not have access to the equity or bond markets in five to seven years

ML: I think it is by no means certain that a company in the Nordics which does not care meaningfully about ESG and is not willing to invest to improve its processes will have access to the primary bond or equity markets in five to seven years. The key question is: will there be investor demand for such assets?

In ten years, there might be only ESG-oriented, actively managed equity or bond funds with long-term horizons in the Nordics

My personal view is that in ten years' time there will only be ESG-oriented funds based in the Nordics out of those that have active investment mandates, invest in equities and/or bonds, and have long-term investment horizons. Moreover, I think that in the future asset managers will either have to build their own dedicated research capability or buy in that research service from Nordea Equity Research or another provider, as a potential white-label alternative to in-house research investments. It will be necessary for an asset manager to differentiate itself from today's typical level of sophistication, and also to demonstrate an ability to show how ESG factors contribute to a sustainable long-term outperformance.

JT: What is Nordea Corporate and Investment Banking currently doing to promote development within sustainability?

As the biggest bank in the Nordics, with a recognised sustainability franchise in asset management, Nordea has a role to support widespread adoption of ESG

ML: We have a role in society to help and support these major shifts in response to bursts of creative destruction, and help ensure there is a market and capital allocated to these new initiatives. This is one of the purposes behind Nordea's initiative to launch the biggest sustainability conference in the Nordics this year. As the biggest bank in the Nordics, with a widely recognised strong ESG franchise within asset management and a proven ability to drive returns at low risk, we have an obligation to engage, drive and contribute to this change in capital markets.

On a personal note, if I can tell my kids that I did what I could, together with my friends and colleagues at Nordea, to contribute to a better world and an environment we believe can support future generations, it would make me proud! And I am sure everyone in Nordea, as well as our customers and our suppliers, who are working with or just passionate about sustainability, feel the same way.



Not sustainable is not an option for institutions

To see how Nordic institutional investors approach sustainability today, we have made an in-depth study of

63 of the region's biggest institutions, with aggregate assets under management of EUR 2.8 trillion. We

have categorised every fund of these institutions, using a simple scale, and find that 99% of total Nordic

institutional AuM falls under some form of ESG policy. Moreover, the level of ambition and sophistication for

these policies is increasing. We argue that it may be difficult for corporate issuers with poor ESG scores to

get access to equity or bond funding at all in the future.

April's Nordea On Your Mind reviewed corporates, how much ESG failures have cost listed Nordic companies in the past five years

We analyse the biggest Nordic institutions for ESG ambitionIn the April Nordea On Your Mind, Going green and coming clean, we took a look at ESG (environmental, social and governance) from a corporate and commercial perspective. We reviewed what ESG-related failures and incidents had actually cost shareholders of listed Nordic companies over the past five years. As the costs proved substantial, we concluded that, apart from wanting to show good corporate citizenship and give a positive contribution to society, it makes very strong financial sense for companies to perform strongly on ESG.

In this edition, we look at how Nordic institutional investors approach ESG and sustainability

This time, we will take a closer look at ESG from the point of view of institutional investors. With the help of Nordea's FIG (Financial Institutions Group), we have selected 63 of the biggest, most important Nordic institutions, which we believe together represent the overwhelming majority of total institutional assets under management in the Nordics. We analyse this sample of institutions, to give us a snapshot of how Nordic AuM currently look in terms of asset type, what share of assets fall under some sort of ESG or SRI (socially responsible investments) policy, and how sophisticated or ambitious such policies are.

In addition to looking at the AuM and investment policies incorporating sustainability, we wanted to get a feel for how institutional commitment to sustainability has evolved over the past five years in terms of focus and manpower. This can be tricky to measure, so we decided to get a rough idea by looking at a limited sample of institutions. We opted for two different samples from Sweden, the biggest market in the Nordics for institutional investments.

Anecdotal evidence of increased institutional ESG focus: the number. of ESG specialists invited to events by Nordea Equities has risen more than threefold in three years

Sharply rising number of ESG specialists at institutionsOur first illustration is from within Nordea. Having talked to our colleagues in Equity Sales, we became curious how institutional investor client interest seen in Nordea Equities in Sweden has evolved in recent years. Nordea Equities is hosting events for clients on an almost daily basis, including quarterly results presentations by management, field trips, seminars, etc. Some of these events are ESG- or sustainability-themed events. For these, there is a specific invitation list of individuals who are dedicated ESG specialists or have a specific interest in ESG among the institutions. The first such ESG-specific invitation list was created in 2014, comprising 18 people. Today, the list has grown to include 62 people –impressive growth of 244% in the number of dedicated (or at least specifically interested) individuals in three years!



Number of invitees with specific ESG interest to Nordea Equities events in Sweden

18

62

0

10

20

30

40

50

60

70

2014 2017

+244%

Source: Nordea Markets

The number of dedicated ESG specialists at 11 of Sweden's biggest institutions has increased 44% since 2012

Our second illustration is a summary of the number of dedicated ESG specialists working at 11 of the biggest Swedish equity institutions, which together probably represent more than two-thirds of total institutional equity AuM in Sweden today. We compared the number of staff specifically assigned to working with ESG issues in 2012 and in 2017, finding it has increased by 44% from 22.5 to 32.5.

Number of dedicated ESG specialists at top 11 Swedish institutions up 44% since 2012

22.5

32.5

0

5

10

15

20

25

30

35

2012 2017

+44%


At nine out of 11 institutions, each fund manager also has explicit ESG responsibility

We acquired the information on the number of specialists from the institutions themselves, and we would argue that the underlying change in focus on ESG and sustainability is even greater than the 44% increase in dedicated staff suggests. Nine out of the 11 institutions have introduced an explicit ESG responsibility for each fund manager, who must ensure that the institution's sustainability policy for investing is followed, but can get advice and support from specialists. One of the nine institutions with fund manager responsibility for ESG even had this in 2012, while the other eight have introduced it sometime in the past five years.



Our sample of 63 top Nordic institutions had AuM of EUR 2.8tn as of end-2016 (of which Norway's sovereign oil fund represented 29%)

Nordic institutional AuM by country and asset typeOur sample of 63 major Nordic institutional asset managers had aggregate AuM of just over EUR 2.8 trillion as of year-end 2016, and we believe this sample is, for all intents and purposes, a good representation of the total Nordic institutional space. A full breakdown of the 63 Nordic institutions, ranked by AuM, can be found at the end of this section. As the Norwegian oil fund (Statens Pensjonsfond Utlandet) is so large, representing almost 29% of total AuM in our sample, in some illustrations we show our data both including and excluding the oil fund (which does not invest in Norwegian domestic securities).

Looking by country, we think it most relevant to use the breakdown excluding the Norwegian oil fund to see the underlying national split of assets under management. Sweden represents about 50% of the market, Denmark 25%, and the final quarter is split between Finland and Norway (again excluding the oil fund), with Finland being a bit smaller than Norway.

Total Nordic AuM by country (including Norwegian oil fund) – 2016

Sweden38%

Denmark18%

Finland6%

Norway38%


Total Nordic AuM by country (excl Norwegian oil fund) – 2016

Sweden53%

Denmark25%

Finland9%

Norway13%


Nordic institutional AuM split 47% bonds, 39% equities, 4% real estate and 10% other assets

When we look at the breakdown by asset type, we again believe it most appropriate to exclude the equities-heavy Norwegian oil fund. Excluding it, total AuM are split 47% bonds, 39% equities, 4% real estate and 10% other assets. We have made our own categorisation for each institution's reported asset breakdown, typically including short-term fixed income securities such as treasury bills and time deposits as bonds. Other assets include direct loans, private equity funds and direct infrastructure investments.

Total Nordic AuM by asset type (incl Norwegian oil fund) – 2016

Bonds43%

Equities46%

Real Estate

4%

Other7%


Total Nordic AuM by asset type (excl Norwegian oil fund) – 2016

Bonds47%

Equities39%

Real Estate

4%Other10%




No major change in Nordic institutional asset mix since 2012

There have been no major changes in the total breakdown by asset type between 2012 and 2016. The only really notable change on the aggregate level is that equities have increased as a share of the total by a few percentage points, at the expense of bonds. We suspect this is both a function of deliberate weighting changes in some portfolios, as institutions hunt for yield in an ultra-low interest rate environment, and a function of buoyant stock markets in the past few years raising values of share portfolios.

ESG policies now almost universal for Nordic institutionsNext, we have tried to determine how much of institutional assets under management fall under some form of sustainability policy, how ambitious and sophisticated such policies are, and if they have become more widespread between 2012 and 2016.

We have split institutional ESG policies into four categories, ranked by level of ambition/sophistication

We have put a major effort into this analysis, checking asset splits and policies on the individual fund level for all of the 63 Nordic institutions included in our study. There is no standard for defining sustainability policies, whether they are called SRI, sustainability or ESG. To be systematic, and to able to give at least a rough categorisation that can offer a reasonable indication of where the institutions are from a sustainability point of view in their asset management, we have put each fund's policy into one of four categories we define:

No screeningNegative norm-based screeningNegative screening and voting engagementPositive screening, negative screening and voting engagement.

These categories are in increasing order of ambition and sophistication:

No screening is for funds with no meaningful sustainability policy, which accordingly have the freedom to invest in any assets they see fit.Negative norm-based screening means the fund is prohibited from investing in securities from issuers with exposure to issues or activities that are not considered acceptable, such as arms manufacturing, tobacco, human rights violations, environmental pollution or corruption.Negative screening and voting engagement means the fund is prevented from investing in securities with undesirable ESG profiles as per above, and it also has a policy of active ownership, seeking to engage with the boards, management and AGMs of companies in which it owns a significant stake.Positive screening, negative screening and voting engagement is similar to the category above, but with an added proactive investment strategy of selecting highly ESG-scoring companies, or companies with a business that is a play on sustainability, for the fund to generate outperformance.

We have categorised every fund for each of the 63 Nordic institutions in our sample

We have categorised each fund for all of the 63 institutions, according to our interpretation of the public sustainability policy or investment policy of the fund, or of the institution. We do not intend to create a perfect sustainability policy scale, or perfect classification by fund or by institution. This is an attempt at a simple but systematic review of how sustainability issues play into institutional investing in the Nordics today.



Total Nordic AuM by ESG policy (incl Norwegian oil fund) 2012-16

0

500

1000

1500

2000

2500

3000

2012 2014 2016

Au

M E

UR

bn





59%

62%

37%35%

3% 3%


Total Nordic AuM by ESG policy (excl Norwegian oil fund) 2012-16

0

500

1000

1500

2000

2500

3000

2012 2014 2016

Au

M E

UR

bn





47%

45%

50%49%

4% 4%


We have added up all of the funds at all of the institutions in our sample, to determine what share of total Nordic institutional assets under management fall into each category of ESG policy. As the Norwegian oil fund is so sizeable, alone representing nearly 30% of Nordic AuM, we show both the total by category including the oil fund, and the "underlying" split, excluding the oil fund.

Norway's sovereign oil fund has an ambitious ESG policy, so its size pulls up the average for Nordic institutions

As the oil fund has an ambitious ESG policy for all of its investments, its total EUR 813bn of assets (as of year-end 2016; by September 2017 it was above EUR 1tn) fall under the highest ESG policy category. This pulls up the share of total Nordic AuM in this highest category significantly, to 62%, from 59% in 2012. So when the oil fund is included, 62% of Nordic AuM fall into the most ambitious ESG policy category, 35% into negative screening with voting engagement, and 3% into simple negative screening.

When we exclude the oil fund from Nordic AuM, we get a more accurate picture of the current ESG policy coverage and ambition level among Nordic institutions. For the roughly EUR 2tn of institutional AuM not managed by the oil fund, 47% falls under the most ambitious ESG policy, 49% under negative screening and voting engagement, 4% under simple negative screening, and a mere 1% has no ESG policy at all.

With or without the oil fund, 99% of Nordic institutional AuM fall under some form of ESG policy!

With or without the oil fund, ESG policy coverage has been almost universal at 99% of AuM in both 2012 and 2016. Nonetheless, the level of ambition, or sophistication, in ESG policies has been on the rise, with positive screening growing its share of total AuM by a couple of percentage points, at the expense of the no. 2 category negative screening and voting.

Nordic bonds by ESG policy (excl Norwegian oil fund) – 2012-16

0

200

400

600

800

1000

1200

1400

2012 2014 2016

Au

M E

UR

bn


Negative screening and votingengagement

Negative norm based screeningor no screening


46%

47%

48%47%

5% 4%


Nordic equities by ESG policy (excl Norwegian oil fund) – 2012-16

0

200

400

600

800

1000

1200

1400

2012 2014 2016

Au

M E

UR

bn



Negative norm basedscreening or no screening


42%

54% 54%

3%

48%

49%

2%


Ambition in ESG policies has increased the most for equities since 2012, and only slightly for bonds

If we focus on asset types and stick to the two dominating categories of equities and fixed income securities, we find that both already had 99% of AuM covered by ESG policies in 2012 and still do today. However, the difference lies in the level of ambition and sophistication for ESG policies, which is higher for equities than for fixed income, and has risen much more significantly with equities than fixed income over the past five years. Fixed income has seen a slight migration to more sophisticated ESG



policies, while the share of equities AuM in the top category has grown to 48%, from 42% in 2012. For fixed income, the top category has grown its share from 46% to 47%.

Total AuM by ESG policy in Sweden for 2012-16

0

200

400

600

800

1000

2012 2014 2016

Au

M E

UR

bn




No screening (2% resp. 1%)35%

3% 2%

60%

64%

32%


Total AuM by ESG policy in Norway (excl oil fund) for 2012-16

0

200

400

600

800

1000

2012 2014 2016

Au

M E

UR

bn



Negative norm basedscreening (0% resp. 0%)

No screening (1% resp. 1%)66% 60%

33% 38%


Total AuM by ESG policy in Denmark for 2012-16

0

200

400

600

800

1000

2012 2014 2016

Au

M E

UR

bn





6%

9%

83%

79%

11% 11%


Total AuM by ESG policy in Finland for 2012-16

0

200

400

600

800

1000

2012 2014 2016

Au

M E

UR

bn



Negative norm basedscreening (0% resp. 0%)


32%26%

68%74%


Looking at the individual Nordic countries, we again exclude the Norwegian oil fund, since it is in a size league of its own and does not invest in domestic Norwegian securities. The charts above show the breakdown of AuM by ESG policy category for each country. We can see the sizes of the markets, with Sweden's EUR ~1.1tn of AuM by far the biggest, ahead of Denmark's EUR ~500bn and the EUR ~200bn each for Finland and Norway (excluding the oil fund).

Sweden and Norway lead, with 60%or more of AuM under the most sophisticated type of ESG policy, versus 26% and 9% for Finland and Denmark, respectively

There are national differences in the levels of sophistication for ESG policies too. In every country, almost all AuM are covered by an ESG policy, but Sweden and Norway stand out in having 60% or more of total AuM run under the most ambitious positive screening policy type. Denmark is lagging in using less mechanical policy types, with only 9% of AuM in the same category, and 11% of AuM under the simplest – negative screening – policy type. The latter compares with 2% in Sweden and 0% in Norway and Finland.

Equity AuM by ESG policy in Sweden for 2012-16

0

100

200

300

400

500

2012 2014 2016

Au

M E

UR

bn





58%

63%

39%36%

3% 1%


Equity AuM by ESG policy in Denmark for 2012-16

0

100

200

300

400

500

2012 2014 2016

Au

M E

UR

bn



Negative norm basedscreening or no screening

No screening (0% resp. 1%)4%

86%

85%

10%

7%

8%




Equity AuM by ESG policy in Norway (excl oil fund) for 2012-16

0

100

200

300

400

500

2012 2014 2016

Au

M E

UR

bn




No screening (4% resp. 4%)28%47%

69% 49%

0% 0%


Equity AuM by ESG policy in Finland for 2012-16

0

100

200

300

400

500

2012 2014 2016

Au

M E

UR

bn




No screening (0% resp. 0%)37% 25%

63% 75%0% 0%


For equity AuM, Sweden has highest most ambitious ESG policy share, and Norway (excluding the oil fund) the lowest

Looking instead at the breakdown of ESG policy type by sophistication level for equity AuM in the Nordics, we see a similar pattern as for total assets, including for the size of each country market. But there are a couple of notable differences for equities:

1.

2.

Sweden's share of the most ambitious, positive screening, category started lower than for total assets (58% versus 60%) in 2012, and has grown more strongly to reach close to the level for total assets (63% versus 64%) in 2016.In Norway, the share of equity assets under the most ambitious ESG policy is much lower (47% versus 60%) than for total AuM. This excludes the oil fund.

To conclude: 99% of Nordic institutional AuM already fall under some form of ESG policy, and the level of ambition and sophistication of ESG policies is increasing. For any large corporate issues of bond or equity capital, it is clearly worth considering how the company is scoring on ESG criteria today, and how it can be ensured that ESG performance improves or stays high in the coming years. It is debatable the extent to which issuers scoring poorly for ESG will even have access to bond or equity markets in the long term.



Our sample of 63 Nordic institutions ranked by 2016 AuM

Assets under management, EURbn, 2016# Institution Total Bonds Equities Real Estate Other Share of total1 Statens pensjonsfond Utlandet 812.5 280.1 510.0 22.4 28.6%2 Nordea AM + Life & Pension 322.7 187.2 129.1 6.5 11.4%3 Swedbank Robur 124.3 39.8 73.3 11.2 4.4%4 Danske Capital 114.0 67.3 41.0 5.7 4.0%5 ATP 102.1 33.7 50.0 18.4 3.6%6 Alecta 82.2 41.1 35.4 5.8 2.9%7 Storebrand 62.7 32.4 17.1 2.5 10.7 2.2%8 AMF 59.8 21.5 26.9 12.0 2.1%9 PFA 58.4 41.4 12.4 4.6 2.1%10 DNB Asset Management 57.7 34.6 17.3 0.0 5.8 2.0%11 Skandia 53.1 22.5 13.0 5.8 11.9 1.9%12 SEB Investment Management 51.6 24.7 28.9 0.1 2.1 1.8%13 KEVA 48.6 22.1 17.4 3.0 6.1 1.7%14 KLP Kapitalforvaltning 48.0 22.6 9.6 6.2 10.1 1.7%15 SHB Fonder 45.2 14.9 28.9 0.0 1.4 1.6%16 Varma 42.9 18.0 18.4 3.9 2.6 1.5%17 Folksam 42.5 24.7 14.0 3.0 1.3 1.5%18 SamPension 38.8 19.7 9.7 3.3 6.1 1.4%19 Ilmarinen 37.2 12.2 15.0 4.0 6.0 1.3%20 AP7 36.4 3.0 32.4 1.0 1.3%21 AP4 35.5 11.4 20.6 2.5 0.7 1.2%22 AP2 34.5 11.7 14.8 4.5 3.4 1.2%23 AP3 34.5 12.8 14.7 5.5 1.4 1.2%24 PKA 33.6 12.8 9.7 11.1 1.2%25 AP1 33.0 9.9 11.9 11.2 1.2%26 DNB Livsforsikring 32.5 21.7 1.9 1.7 7.1 1.1%27 Danica (managed by Danske) 28.9 18.8 0.6 3.0 6.5 1.0%28 Folketrygdfondet 24.9 9.7 15.2 0.9%29 Elo 21.5 7.9 5.8 2.9 3.7 0.8%30 Industriens Pension (IP) 21.2 8.3 5.9 1.1 5.2 0.7%31 AFA 20.9 9.4 6.5 3.3 1.8 0.7%32 Kammarkollegiet (discretionary) 19.1 19.1 0.7%33 VER 18.8 8.6 8.5 0.5 1.1 0.7%34 Bankinvest 18.3 0.6%35 AP Pension 18.0 9.5 2.7 5.8 0.6%36 Pensam 17.5 9.1 4.6 1.4 2.5 0.6%37 Lægernes pension 15.7 7.1 7.9 0.7 0.6%38 DIP/JØP, Pplus 14.8 6.2 6.4 2.2 0.5%39 Länsförsäkringar Fonder 14.7 1.6 5.2 0.0 7.9 0.5%40 SEB Pension 12.8 5.1 0.9 0.6 6.2 0.5%41 Länsförsäkringar Fonder Liv 12.3 8.6 3.7 0.4%42 SparInvest 10.4 5.6 3.3 1.3 0.2 0.4%43 Oslo Pensjonsforsikring 9.1 3.8 1.6 1.7 2.1 0.3%44 MajInvest 8.8 2.8 1.0 4.9 0.3%45 Skagen 8.5 0.7 7.8 0.3%46 Kåpan 8.4 4.0 3.3 1.2 0.3%47 IF Skadeförsäkring 8.2 6.9 1.3 0.3%48 Lannebo Fonder 7.4 0.9 3.7 0.0 2.9 0.3%49 Öhman Fonder 6.8 2.2 4.6 0.2%50 Carnegie Fonder 6.7 2.3 4.4 0.2%51 Etera 6.1 2.7 1.7 1.1 0.5 0.2%52 Gjensidige Forsikring 5.9 3.8 0.3 0.3 1.5 0.2%53 Alfred Berg Kapitalforvaltning 5.8 3.4 1.5 0.8 0.2%54 Odin Forvaltning 4.8 0.5 4.3 0.2%55 OP Wealth management 3.9 3.0 0.4 0.4 0.1 0.1%56 AP6 3.0 1.0 1.7 0.2 0.1 0.1%57 Brummer & Partners - Nektar 2.9 2.0 0.9 0.1%58 Catella 2.9 1.0 1.3 0.0 0.6 0.1%59 OP Non-Life Insurance 1.4 1.2 0.1 0.1 0.1 0.1%60 Formuepleje 1.1 0.2 0.8 0.0 0.0 0.0%61 Midgard (managed by PFA) 1.1 0.0%62 Protector Forsikring 0.9 0.6 0.2 0.2 0.0%63 Brummer & Partners - Lynx 0.5 0.1 0.1 0.2 0.0%

Total 2,838 1,221 1,291 104 206 100%




Interview: Average life cycle now just 15 years

We interview Paras Anand, Chief Investment Officer, Equities, Europe, at Fidelity International, with some

USD 300bn of assets under management, on how sustainability has become a central component in

investment management today. We look at how it can be critical in determining if a business will still exist in

15 years, and how Fidelity applies the concept of sustainability it in its investment approach.

JT: As a tone-setting and prominent institution, how have you seen investor focus on ESG develop in recent years, and what have been the drivers?

PA: The investment management industry has made quite a journey with respect to the ESG topic, which has moved from being an ancillary consideration for investors to becoming very central. I think this partly has to do with people becoming re-engaged in society; especially in the aftermath of the global financial crisis. I think it is also about us getting a clearer understanding of what the priorities are for the next generation of investors. You could argue that it mirrors the broader societal evolution, and to be very honest, I would say it has been driven more by the client side, than by the investment management industry. The industry has evolved with its customers.

JT: Which parts of ESG do you see investors focusing most on, and what is your own view on which are most critical?

PA: The focus of the investment management industry has mainly been on the "G" in ESG – on governance. For active investment managers, there is a natural responsibility to look at board structures, how companies are managed, the decisions they make and their remuneration policies. The idea is that if they do the right thing, it will be reflected in good returns over time. The clients, on the other hand, have placed their emphasis on the environment, the "E" in ESG. They are much more attuned to issues around the climate and emissions.

The average life cycle of a company is shrinking to 15 years – an existence over the course of just two business cycles

The area that I have found myself really drawn towards, is the issue of sustainability – the one which has neither been the central focus of the investing client or the investment management industry. A key trigger for my interest in this is a McKinsey report from a few years ago that showed the average life cycle of a company is shrinking, having gone from 30-40 years in the 1980s down to a projected 14 years by 2025. You could describe that as a company going through all its evolutionary stages –startup, maturing, harvesting, getting disrupted or disintermediated, and closing down or getting acquired – over the course of two macroeconomic business cycles. I find that fascinating, even shocking!

JT: 14 years sounds like an extraordinarily short corporate life cycle. Is that sustainable?

PA: Actually, this creative disruption activity has been slowing in recent years, which is quite counterintuitive. Technological innovation has been gaining pace in the past 5-7 years, leading to spectacular corporate failures like Eastman Kodak going out of business, pressure on traditional retailers from e-commerce, etc. Could the pace of creative disruption really have slowed? We invest in listed companies, and we have looked at the tenure in the public market (how long a company is a constituent of a major stock market index) as a proxy for its life cycle. This tells us that the pace has indeed slowed. I think there are two important reasons behind this.



The shortening of corporate life cycles is temporarily held back by ultra-low interest rates and growth in passive investment products

One is the extremely accommodating monetary policy from central banks in the wake of the global financial crisis. Ultra-low interest rates and banks prioritising re-building or preserving capital reserves have created weak incentives for lenders to withdraw funding for long-term unviable businesses, instead keeping such ”zombie companies” alive. Without this dynamic, we would likely have seen the normal process in a bear market, of assets being transferred from weak hands to strong hands.

The other key reason is the spectacular growth of passive investment products, like index funds and ETFs (Exchange Traded Funds). What they tend to do is buy the pre-existing market cap configuration of the market.

JT: Without these two factors, would we in a bear market have seen a faster rate of creative destruction and of shortened corporate life cycles? Is a 14-year corporate life cycle very pessimistic, or could it under more ”normal” circumstances be even shorter?

Technology is creating network effects, increasing the distance between the market leader and the no. 2 player

PA: In this reality of shortened corporate life spans, small, even marginal, differences between companies can have a dramatic impact on their respective fortunes. Technology has a propensity towards creating network effects. Once you have a certain mindshare, the distance from no.1 to no. 2 tends to grow, almost as with Zipf’s law in statistics. Just consider Google among internet search engines. The phenomenon is particularly pronounced among tech companies, but it is now starting to proliferate into other industries. This is creating a trend of a more limited number of leading companies whose franchises stand the test of time. Meanwhile, the internet has also allowed a greater number of "niche" businesses and specialist brands to develop because they are able to scale their businesses due to technology, fulfilment and social media. This phenomenon is described in The Long Tail by Chris Anderson.

What I am getting at, is that as an investor, one of the things you are really trying to find is duration. In a world where the typical company is not going to be around for more than 10-15 years, the real value will be in finding and investing in the companies which are going to be around for 20, 30 or 40 years. If you marry that to the idea that small differences between businesses today can make huge differences to their future prosperity, you will find that investing today may require certain skill sets that have not been needed or used historically.



JT: Could you give an example of how sustainability might affect the lifecycle of a business?

Our view on the duration of a business matters much more for its value than what profit it is making today

PA: Yes, let me try to make that real. Many investors focus exclusively on the economics of a company when they consider investing in it. How much money is it making? How is its business going to grow? But in today’s world, our view on the duration for the business matters infinitely more for the value of the business, than what profits it is making today. The critical priority becomes determining how sustainable the company's profit is today, and today’s world is a world with high transparency, where customers have a high propensity to switch.

If the product or service that your company provides is no longer deemed to offer good or even reasonable value, the rent you extract from society is going to be taken away from you, in one form or the other. We are seeing signs of this phenomenon among UK estate agents. The property owner pays a high nominal fee, a small percentage of a high-priced asset, for somebody – the estate agent – to come to your house, take pictures, put a more or less standardised ad on a third-party website, they host viewings for potential buyers, then wait by the phone for bids. That service is being questioned, and new models for selling property are coming up. Property owners can opt to do one or more parts of this service themselves, and pay less. I think this a microcosm of how the corporate sector is evolving.

JT: And how does this affect how you view a company when considering if you should invest in it?

Sustainability is not an ancillary factor, it is critical for determining if a company has a future at all

PA: Analysts now need to take all of this into account. They need to consider if businesses are growing not just market share, but also mind share. But not only that, they also need to evaluate if companies are treating their employees well. And how do they treat the regulator? Are they telling one story to the regulator, and another story to the shareholders? If so, is that a sustainable position? How do they treat their suppliers? In this fragmenting, fast-moving corporate sector, suppliers can also take their business elsewhere. Analysts and investors now need to look at businesses more holistically, instead of just the economics.

I believe that most investors still see sustainability as a hygiene factor, as ancillary, rather than core to the investment case. But in a world of shrinking comparative advantages, with smaller differences between company A and company B deciding their respective fortunes, investors will need to pay more attention to sustainability issues. While it has been challenging to show the merits of sustainability for generating investment outperformance, here I see the ESG prerogative matching the prerogative of maximising returns for investors.



JT: Are we living in dramatic times that could be a phase, where traditional approaches to evaluating investment opportunities do not work like they used to? Could things go back to how they were?

PA: What is causing disruption today? People will typically say technology, or the internet. But what about if we look back to 20 years ago? If we had this conversation then, would we have said similar things? Possibly. Back then we were looking at the release of the Windows 95 operating system for computers, selling 4 million copies in the first couple of months – a real game changer at the time. Amazon was launched around this time. Barings Bank went bust, owing to trading losses. Mexico devalued its peso and needed a financial bailout. Plenty of major events. Perhaps we are always in a period of disruption? But what is different this time? The first thing is the pace of change. It is staggering how quickly advantage can disappear from you. A UK CEO, with a track record of 10-15 major corporate turnarounds, has told me that the first people to recognise that a business has problems is the business' own staff. Next come the suppliers and after that the customers, as they see the value of the product come down. Eventually the funders and financiers of the business get it too. He said this realisation process, the vicious circle, took a couple of years in the 1990s and early 2000s. Today, it most often takes days or weeks.

Airbnb grew from zero to 1.5 million rooms – more than Hilton's 900,000 – in 18 months

As an example, consider Airbnb, specifically its sheer rate of expansion. In February 2015 it had 300,000 rooms globally on its website. By the end of the year it had 900,000 rooms. Hilton Group has 700,000 rooms, for comparison. Today, Airbnb has about 1.5 million rooms. In the space of 18 months, the hotel industry had a new, substantial, differentiated competitor.

20 years ago, many companies would happily proclaim that they were customer-centric, and that this was an edge in their business. This may sound ridiculous today but that is because the game has changed, with the level of optionality that customers now have. It is the customers that write the script for business. In the startup ecosystem, companies like Soundcloud, Dropbox and even Twitter have essentially gone where their customers have led them. This is much harder to do for an established company, which has already written its value proposition and invested a lot of capital in it.



Social media are putting a question mark over the value of brands, and companies are struggling with how to deal with this

After the pace of change, the second big difference between today and the creative disruption we saw 20 years ago has to do with the idea of brands. The psychology of brands was strongly connected to the idea of the global village, being connected to other through common tastes and preferences. That dynamic has changed today. Through social media, you are connected anyway and when the connection issue goes away, it is replaced by desire for individuality. People’s behaviour in social media is actually characterised by very public proclamations of preferences for goods and services with a high degree of individuality.

Nobody is really trying to be like anybody else on social media. They may behave in similar ways, like on Instagram, which is essentially a study in envy: I am here, you are not; I am on a nicer holiday than you; I have a more exclusive car than you; I am at this party, you are not invited. It is creating a sense of fragmentation. You can’t rely on brands and unity and homogeneity like you could in the past. This is incredibly complex for businesses to grasp and know how to deal with.

The third difference from 20 years ago is transparency. It has become so much easier, thanks to increased connectivity, for consumers to compare alternatives. The ability for corporates and individuals to be covert about their real agendas is diminishing. Today’s leaders live in a glassbox and have to unpack their process in front of the people they lead. I think this is a more material shift than people typically appreciate. So as an investor, you need to differentiate between surface-level acknowledgements of disruption or ESG, and real understanding of what is required to be sustainable and to be successful.

JT: What differences in attitudes towards ESG and sustainability do you see today, among your clients and your own staff, compared with 5-10 years ago?

Sustainability focus started in Europe, but is spreading globally

PA: We are seeing a big attitude change among institutional clients like sovereign funds and foundations, as well as at the younger end of our retail clients. There is no distinction in the minds of these clients between your values as a business, how you invest, and the returns you generate. The centre of gravity for this view, the ESG focus, has been in Europe, but what is really fascinating to see is how it has spread globally.

I am also fascinated by how sustainability and ESG means quite different things to each individual and each institution. What they are looking for is a company's value proposition and approach and how it integrates it into what it does?

Our people and our teams are no different from everyone else regarding their view on the broader societal change we have been talking about. They want to feel conviction that the market economy does some good over time, having seen the downside of it during and after the financial crisis. Our philosophy is that we believe greatly in engaging with companies, striving to support positive change, rather than simply excluding them and opt not to invest in them. Indeed, some of the best investment opportunities occur in the immediate aftermath of accounting scandals or other corporate governance question marks, where you can take a different long-term view of the business. I also think it is important not to over-estimate what one investment management company can do on its own. Helping to drive change to make the corporate sector a better corporate sector is very much a collective effort for the investment management industry to undertake. Only us pointing out flaws in a corporate executive remuneration policy to a CEO might not cause any u-turn on his or her part, but getting three calls from major shareholders in a week on the same topic just might.



Interview: Pensions require sustainability

We interview Jan Erik Saugestad, CEO of Storebrand Asset Management, on why sustainable

investments have grown in importance over the past few years and the story behind Storebrand's work to

become one of the world's leading pension companies within sustainable investments. We take a closer

look at why Nordic asset managers are at the forefront of this field.

KK: Could you describe how Storebrand applies sustainability in the management of its investment portfolio? Is it much different from five or ten years ago?

JES: Let me start with Storebrand's ambition and motivation. Firstly, we invest sustainably as we are convinced that it's the only smart thing to do for a long term investor. We believe that companies that address global challenges will be more profitable or less risky over time. Seeking solutions and business opportunities as well as understanding inherent risks better than others is good management. Secondly, we have a role as a responsible investor and owner – as a pension provider we have a responsibility to deliver high returns over a long time period and we clearly want to do that in a manner that creates a positive impact. You can easily see that these two motivations go hand in hand.

When we work with sustainable investments we use three pillars:

1.2.3.

Exclusion – what not to invest inInclusion – companies we want to invest more inActive ownership – to create change

Sustainable investment at Storebrand is built on three pillars: Exclusion, inclusion and active ownership

We avoid investment in close to 200 companies. The so called exclusion list includes companies with a business we don't want to support, often based on ethical criteria. The list also contains companies in high risk industries with weak ESG business practices. That method is typically called negative screening. The second pillar stipulates that we include companies with a business or in an industry we want to support, and believe will generate good returns in the long run. That method is often called positive screening. The last and final pillar is active and responsible ownership, meaning that we actively try to influence the companies we have an ownership in. That could be by using our voting rights, or to support the commitment to various policies, like the GRI (Global Reporting Initiative) or the UN Global Compact.

KK: You mentioned responsibility. Do you believe that you have a particular responsibility to drive sustainability issues, being Norway's second largest asset manager (after the huge national oil fund)?

As a pension manager, Storebrand has the responsibility to deliver high returns over a long time horizon

JES: Yes, but mostly because we have a responsibility towards our customers, who expect a good yield over a 20-40 year time horizon. As a pension manager, we need to have a long-term perspective, and that is one of the reasons we choose to work with sustainable investments. Clearly, most people want to retire in a nice environment so we have an objective to create a positive impact as well.

KK: Apparently you have been very successful, as you have received praise and awards for your work within this field, like being recognised by Corporate Knights and included in the Global 100 as the world’s most sustainable pension company. How did it all start? What has been the key to your success?



Storebrand started to work with sustainable investments already in the mid-1990s

JES: One explanation for our success is that we started to work with these issues at a very early stage. We began to work within this field in the mid-1990s and we launched the Storebrand Principle Global Fund in 1997. Already then, we established a research team dedicated to these issues. Initially, the objective with the investment in sustainability was to attract investors globally, outside the Nordics, but we quickly realised that we were a bit too early in this; the markets just were not ready yet. Even so, we've consistently continued to work with these issues, and I believe that is the main explanation for our success, even though it took us about 20 years to get attention for it.

KK: Assets under management in funds with ESG policies have grown strongly (CAGR of 29% in 2007-15 in Europe). What do you think are the main drivers? Greater interest among investors, political pressure, or higher yield among top-scoring ESG companies?

The focus on climate has increased the attention for sustainability among investors as well as corporates

JES: The focus on climate is an important explanation for the increased focus on sustainability. An American president suggesting withdrawal from the Paris agreement, and the extreme weather we've seen in different places across the world lately has made politicians, the public as well as the corporate sector put more focus on the climate issue. For us, this has meant increased demand for sustainable alternatives among our private and institutional customers. The increased interest started as a consequence of the COP 21 and has increased steadily. In 2016 we launched a low carbon footprint index named Storebrand Global Plus in Norway and SPP Global Plus in Sweden. That fund has proven to be very successful and popular among our customers. We have a low cost, low risk solution to climate efficient portfolios.

KK: We’ve spoken a lot about the climate and environmental impact, but ESG also includes the social criterion and the governance criterion. Do you think that these two areas get too little focus?

The other criteria within ESG are also very important: Social and Governance

JES: I do believe that the climate and the environmental issues are easier for people to relate to; that's why we easily speak more about that criterion compared to the others. Secondly I believe that many perceive that the climate issue is time critical. We strive to address a broader set of challenges in our work.

An important issue going forward will be to ensure that as many as possible will take part in the future economic global growth

I often highlight diversity and social alienation as two upcoming challenges, since I believe that they will get more focus going forward. How can we ensure that as many as possible will take part in the future of economic global growth? In line with digitisation and automation, more



and more jobs are disappearing and we are seriously talking about basic incomes for unemployed. In Europe, unemployment levels also significantly increased after the latest global financial crisis. In fact, a whole generation ended up outside the labour force in some countries. With social alienation comes instability, leading to personal suffering, lower economic growth and poorer investment opportunities and returns. Hence, I believe that diversity and social alienation will get more focus going forward. Clearly diversity with respect to gender and ethnicity is part of this.

KK: If we look at corporates, do you see big variations in how committed corporate issuers are to sustainability and ESG? Have you seen any differences between different industries or countries?

To be a sustainable company implies different things depending on your industry

JES: Yes, there are major differences, especially when it comes to different industries. Companies in different sectors face completely different challenges, which also affects their prerequisites for working with sustainability.

For an oil company, a low carbon economy put greater pressure on the business and ability to transform than for most others

The oil sector is the largest industry in Norway and for the oil companies a low carbon economy put greater pressure on their business and ability to transform than for companies in most other industries. However, we’ve seen a big attitude change in recent years among the oil companies when it comes to working on environmental issues. I can take Statoil as an example. It’s a large Norwegian oil company which has, relative to peers, come very far in its sustainability work. But that has not always been the case. It was not that long ago that we, together with Greenpeace, voted against Statoil’s oil sand activities in Canada.

Some years ago Storebrand voted against Statoil's oil sand activities in Canada - In 2016 Statoil sold 100 % of its Canadian business. Today we engage with Statoil to give insight into how it can improve further

Some years ago, Statoil reached out to us, trying to convince us that it was so much better at oil sand activities compared to most peers. We could see that it was true, but still wanted to highlight that using free cash flow for such activities was just not acceptable to us. In 2016, Statoil divested its oil sand business to Athabasca Oil Corporation.

There is also a big difference between small and large companies in terms of how far they have come in their sustainability work. Many times it has to do with the fact that larger companies have more resources to document their sustainability work. But does it mean that their business is more sustainable? I’m not sure that is always the case. However, we see a bias towards the larger companies when you optimise your portfolios on sustainability. We try to avoid this bias.



KK: If we look at asset managers again, do you believe Nordic asset managers have come further in responsible investing compared to the rest of Europe and North America? If so, why? Have you seen any differences between the Nordic countries?

JES: It is my impression that the Nordic countries are at the forefront, but when I travel around the world, I meet a lot of competent and skilled people within this area in other countries as well.

I believe that the Nordic model includes a lot of values that are strongly linked to sustainability. This might partly explain why we've come further on sustainable investments in the Nordics

I believe that we work much more broadly with sustainability in the Nordics. Here, more or less all asset managers say that they work with sustainability, and that is not the case in other countries. Why it is like that in the Nordics? A guess from my side is that our "Nordic model” for society includes a lot of values that are strongly linked to environmental issues. Hence, sustainability is perhaps easier for us to absorb than it is for people living in many other countries.

If we look at all the Nordic countries I would say Sweden has come the furthest. Is that a reflection of a more inclusive and liberal society than the rest of us? One clear example is the recent refugee crisis, where Sweden took in many more refugees than any other Nordic country, even relative to your incumbent population (see the November 2016 Nordea On Your Mind: Refugee crisis and the economy).

KK: Was it also the case that the Nordic countries started to work with sustainability earlier compared to other countries?

JES: Yes, I think so. But there are other countries that were early on it as well, like the Netherlands for example. They have also come far working with these issues.

KK: Is there any drawback to applying ESG in investing

When it comes to sustainability it is important to start working with it even though it might not be perfect from the beginning.

JES: No, based on our experience. We may not have been very sophisticated when we started, but the direction has been right and I believe both we as investors and the companies have done our best to move in the right direction.



KK: What do you expect within sustainability in investing in the next five years? What will we see more and less of? What could be the biggest changes going forward?

It will become more important to quantify how sustainable investments can make a difference

JES: I believe we will see an increased focus on the measured impact of sustainable investments. What kind of difference do you make? For many customers the concept of sustainable investment is still quite vague and they would like to see tangible effects. Our low carbon fund is an example of how you can show a significant difference as it only leaves a carbon footprint that is 1/4 of a common conventional global fund.

As competition in sustainable investments intensifies it will become more important to actually show what difference your products make relative to peers. It also has to be broader than just the E in ESG. Increasingly actions speaks louder than words also when it comes to sustainability.



Quotes from Sustainable Finance Conference

On 22 September, Nordea hosted a Nordic sustainable finance conference in Stockholm with 172

participants from among Nordic and international large corporates and institutions. Summing up our

impressions from the day, it was very clear to us how sustainability has entered the mainstream, is no

longer perceived as mainly PR or branding, but is seen as a strategic issue, critical for a company's

financial health and even for its survival. Our selected quotes from speakers at the event give a flavour.

From left: Carl-Henrik Sundström, Stora Enso; Paras Anand, Fidelity; Alex Budden, Lundin Petroleum; Jens Henriksson, Folksam; Eila Kreivi, EIB; and Jan-Erik Saugestad, Storebrand

From left: Liza Jonson, Swedbank Robur; Michael Wolf, Blackstone; Sasja Beslik, Nordea; and Mathias Leijon, Nordea



Interview: ESG is a major share price driver

On 5 September, Elias Porse and Hugo Fredriksson from Nordea Equity Research released their

thematic report Strategy & Quant: Cracking the ESG code. We interview them on why investors can no

longer afford to disregard the ESG factors of issuers they invest in, how attitudes to ESG have changed

over the past ten years, and why the Nordics are ahead of the US and Europe in ESG scores and focus.

KK: In the report you show a share price performance gap between the weakest and strongest ESG scorers and that the performance difference has been most evident since 2012. What have been the main drivers?

HF: We argue that 2012 marked the tipping point for when the interest in ESG reached critical mass: investors began to incorporate ESG into investment decisions, the general public started to demand higher ESG standards, and hence corporates started to realise the importance of their own ESG performance. When these parts fell into place, the benefits started to become visible. Corporates started to get paid for their investments in ESG, which investors also started to reward, and this marked the beginning of a virtuous circle. The way ESG research has been conducted has also evolved, and significant changes in MSCI’s ESG methodology in 2012 could have resulted in the value-accretive aspects of ESG being better captured than earlier.

Relative performance per MSCI ESG rating since the beginning of 2012, Europe

70

80

90

100

110

120

130

2012 2013 2014 2015AAA AA A BBB BB B/CCC

Source: MSCI, FactSet and Nordea Markets

KK: Hence, by 2012 it started to become even more important for companies to care of ESG...?

In 2012 the interest in ESG became larger among companies, investors and the general public. By then the cost of not being ESG-compliant started to rise as well

HF: Yes, as the interest in ESG grows larger, so does the cost of not being ESG compliant. ESG underperformers run the risk of not being able to access capital at competitive rates as investors are looking at ESG more than ever. We also see providers of debt starting to incorporate ESG into their risk rating models, which will have a direct impact on cost of debt. Perhaps even more importantly, we have started to see early signs and deem it likely that ESG performance will affect the fundamentals going forward: order intake will depend not only on selling the right product at the right price but also on being able to show that no environmental, social or governance standards have been violated in the process.



KK: In the study you have also seen that European and especially Nordic companies have higher ESG scores than US companies. How come?

There is more focus on ESG in the Nordics and Europe than in the US, both among corporates and consumers

EP: In general I would say that what explains how far a company has come with working on ESG is mirrored by the attitude towards ESG in society. In Europe, and especially in the Nordic region, the awareness of ESG is high. Historically, governments in the Nordic countries have not been afraid to enforce regulations in areas such as safe workplaces and working conditions, or compliance with environmental requirements. This is less common in the US, where there is more of a laissez-faire attitude.

HF: When customers and investors care about ESG it becomes profitable for the companies to care about it as well. Our study suggest that in Europe and in the Nordics, consumers are generally more willing to pay extra for fairly produced products compared to US consumers. Also, European asset managers seem to care more about the ESG factor compared to their US peers.

KK: Your study also shows that only pushing one specific ESG parameter does not generate share price outperformance. Why is this? Why is a company starting to focus on, say, environmental performance, not rewarded in the stock market?

Scoring well on one ESG parameter is not enough – a company needs to score well broadly in order to outperform

EP: It is important for a company to invest in all ESG criteria, and especially in those that matter most to the company’s operations. This could be the environmental criterion for an oil company or the social criterion for a service company. We didn’t see any outperformance at all when looking at only one of the three ESG components. Another important aspect is that if an investor uses such a method, he runs the risk of getting an unwanted sector bias, which could add alpha in one market environment but detract performance from another.

KK: Generally, people tend to speak more about the E, the environmental criterion, when it comes to ESG. Could you say something about the other two components in ESG?

HF: The S stands for Social and the G stands for Governance. The environmental criterion is the one that most people are familiar with, which is likely the reason why it is most often used as an example. To score well on governance requires for example that you aren’t engaged in corruption or bribes, and the social criterion is typically about how you treat your staff. All these criteria – E, S and G – are important, but they weigh differently depending on the type of company. For a company with a large number of employees, the S-factor is important, and for a company with business in Russia or Kazakhstan, for example, the G criterion is important. Telia is a well-known example of what can happen if you actually end up in a corruption scandal. Today, Telia has changed its governance processes to handle the risks associated with business abroad and it now actually has the highest ESG score you can get from MSCI: AAA.

KK: I have the impression that the G and S criteria have come more into focus during the past few years. Would you agree?

S and G criteria are getting more attention, but many investors are still focusing narrowly, eg on the carbon dioxide emission profile of their portfolio

EP: Definitely, and not least among asset managers. But I still believe there are many investors who have the wrong focus. For example, when I talk to investors I sometimes hear them saying that they want to know how much carbon emission their holdings produce. If you consider only that factor, you risk getting a sector bias in your portfolio, as I already mentioned. I think that investors should and will be better at investing in



companies which actually perform well within ESG in relation to their peers. Take oil companies for example: oil will be produced in the foreseeable future, and so why not reward those of that actually strive to make a difference? The ESG rating methodology which MSCI uses captures this aspect. We think the relative aspect is interesting both from an investor perspective and from a societal perspective.

KK: Your report shows a strong correlation between ESG scores and share price performance for listed Nordic corporates. You also show that high ESG scorers have higher profitability, stronger balance sheets and more stable returns. Why is this, and were you surprised?

EP: I think one of the more remarkable things we noticed when working with the ESG data was how consistent the results were. Strong ESG companies were consistently beating other companies, no matter what operational measure we looked at, or over what time period we evaluated the companies. We also saw that despite strong ESG companies sharing many characteristics with our quality company screenings, there was no correlation between our quality rankings and ESG scores. ESG actually added excess returns when we included it in our quality portfolio. We still regard strong ESG performance as a quality characteristic but it’s obvious that it captures another dimension of quality that our regular quality screening.

KK: How do you define "quality companies"?

HF: When we quantitatively search for quality, we look at stability, absolute level and ROCE trend, and those characteristics were also found among the strong ESG companies. But despite that, the correlation between ESG ratings and quality rank was zero. So, even though they share the same characteristics, we could conclude that the ESG ranking was based on other criteria. The ESG rating essentially tries to pinpoint how well the companies will manage future risks associated with ESG factors. Strong ESG ratings give an indication of good stability in future returns, which makes these companies very interesting from an investor perspective.

KK: So our quality measures are completely backward looking?

Between 2012 and 2015, a portfolio of quality companies outperformed the stock market by 10-15%; making half the portfolio quality and half with high ESG scores added another 10-15 percentage points

HF: Yes, since our models are based on historical data they are 100% backward looking, and therefore the future-looking part of ESG ratings makes them a good complement to the invest-in-quality strategy. In terms of pure performance, we could also see that a portfolio consisting of 50% quality companies and 50% high ESG-rated companies performed better than a portfolio that only contained quality companies. Between 2012 and 2015, our quality portfolio outperformed the market by 10-15%. When we added high-rated ESG companies (50%), the return increased by a further 10-15 percentage points.



Relative performance index of top 20%: Quality + ESG and quality alone

90

100

110

120

130

2012 2013 2014 2015

Top 20% Quality+ESG Top 20% Quality


KK: Returns of 10-15% above the market sound like quite a lot, is it common for your strategies to perform so well?

High ESG scores give less outperformance than other key screening criteria, but as there is no correlation, it is all complementary

EP: High ESG rating on a standalone basis have added less alpha than other factor strategies. However, we are constantly looking for factors that can add value to our existing strategies but without correlating with other factors. It turns out that ESG is a great complementary factor, as the correlation to value and quality is low. This means that we will look more into how we can incorporate this factor into our existing strategies and our general valuation framework.

KK: We have already mentioned how fund managers have started to care more about ESG. How do you think they will work with ESG going forward?

Negative screening is a common ESG approach today, which is evolving into more sophisticated methods

HF: Until today, by far the most common ESG approach among fund managers has been to use exclusion lists. This means they have excluded certain companies from their investment portfolios, often based on ethical criteria. What we see happening today is that fund managers are starting to use more sophisticated screening methods, such as integrating ESG analysis into all investment decision making. This means that instead of excluding a whole bunch of companies that don’t fulfil certain criteria, fund managers have started to look more into each and every company in order to capture those who actually have a fair business model, even though it might be in an industry facing above-average ESG challenges. Furthermore, many fund managers have started to hire staff who are dedicated to working specifically with ESG issues.

ESG is becoming a hygiene factor for listed companies

Going forward, ESG should in my view be increasingly seen as a hygiene factor, meaning those companies which neglect ESG will ultimately find themselves lacking investors and eventually customers.

KK: Hence, your study shows several reasons why it can be very costly for corporates to neglect ESG. Do you believe corporates see it the same way? Are there differences between sectors and regions?

EP: There are definitely companies that see the risks of not being ESG compliant, but also those who see the opportunities that sustainability brings. Today’s opportunities can easily turn into tomorrow’s risks if neglected. A simplified, but illustrative example could be a car company that is unwilling to embark on the road towards electrical cars. It is not seizing the opportunity to provide a sustainable solution to transportation and in turn runs the risk of going out of business when the demand for dirty diesel cars vanishes.



We have already mentioned that companies have come further in ESG in Europe and in the Nordics in particular compared with the US. But I think that we may see a trend shift among companies there quite soon. There are also major regional differences in the US in adopting ESG where the fly-over states in general are lagging, while the coastal states, such as California, have come further.

KK: During the studied time period, 2005-2015, have the companies become better at ESG; ie have their ratings increased?

Corporate ESG scores have not improved during the studied period, as they are all relative to the whole population

HF: The ESG ratings have actually not improved during the time period. We have seen that the ESG leading position among European companies has been constant compared to US companies over the period. However, with that said, I do believe that companies in the US and Europe have become better at ESG and will continue to develop in that direction: not necessarily because they want to, but because they have to. We genuinely believe ESG is undergoing the transformation from a 'nice to have' to an 'absolute must have'.

Average ESG rating score per region, including current Nordic data

3

3.5

4

4.5

5

5.5

6

6.5

7

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

North America Europe Nordic




Ambitious ESG policies, still negative screening

In this section, with assistance from the Nordea Equity Research Strategy & Quant team and their report

"Cracking the ESG code", we examine how top-ranked ESG funds are positioned in the equity market. We

look at MSCI's ESG rating scores, in order to see if the selected funds actually own stocks corresponding

to the highest ESG ambitions.

There is no correlation between overweight and high MSCI ESG scores for the Nordic funds in this sample

It is somewhat evident that companies with low ESG scores are being punished by investors

How ambitious ESG funds are positioned For this analysis, we sample 15 equity funds with sophisticated ESG profiles – corresponding to the maximum rank of 4 on our ESG ambition scale. The equities owned by these funds are evaluated using MSCI's ESG rating score. Compared with our own ESG ambition score, this is a more detailed measure which evaluates a company's ESG performance based on up to 37 different score areas.

ESG rating scores and Nordic fund positioning relative to aggregated benchmarks

y = -0,3348x + 67,02R² = 0,0003

0

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1 2 3 4 5 6 7 8 9 10

Ove

r/u

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eig

ht

ESG rating score

Source: FactSet, Holdings and Nordea Markets

Surprisingly, there is no correlation between overweight and high MSCI ESG scores for the Nordic funds in this sample. One explanation could be that the ESG screening methods used by funds are not advanced enough to be able to detect all parameters within the MSCI ESG rating. Another reason could be that some funds are more biased towards negative screening, even though they claim to be more ambitious. It could also simply be the case that not all funds assign the same ESG scores as MSCI.

Low ESG rating scores and Nordic fund positioning relative to aggregated benchmarks

y = 16,36x + 3,3255R² = 0,511

0

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140

1 1,5 2 2,5 3 3,5 4 4,5 5

Ov

er/u

nd

er

we

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t ra

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=u

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we

igh

t

ESG rating score

Source: FactSet, Holdings and Nordea Markets



Negative screening is still broadly used among fund managers

For lower ESG rating scores, however, there is a correlation with underweight. It is somewhat evident that companies with low ESG scores are being punished by investors. This corresponds well with the fact that negative screening is still broadly used among fund managers.

Potential future capital flowsIf demand from investors for higher ESG standards continues to grow in the future, we expect sophisticated ESG policies to be of great importance for Nordic funds in order to attract capital and to mitigate reputational risk.

It is also worth noting that according to "Cracking the ESG code", top-ranked ESG companies outperform in terms of ROE and ROCE compared with the market average. Hence, there are multiple incentives for going 'all-in' on ESG in the future.

Conclusions drawn from this analysis indicate that companies with strong ESG ratings are likely to experience an inflow of capital in the near future. Fund managers are expected to implement more advanced ESG screening techniques in their investment decisions and will likely invest in high ESG-scored equity. Following the same logic, companies with poor ESG ratings are expected to experience an outflow of capital when fund managers become more aware of ESG.


Nordea Bank AB (publ) Nordea Danmark, filial af Nordea Bank AB (publ), Sverige

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Disclaimer and legal disclosures Disclaimer

Nordea Markets and Nordea Corporate and Investment Banking are departments of Nordea Bank AB (publ) and its branches Nordea Danmark, filial af Nordea Bank AB (publ),Sverige, Nordea Bank AB (publ), filial i Finland and Nordea Bank AB (publ), filial i Norge. The information provided herein is intended for background information only and for the sole use of the intended recipient. The views and other information provided herein are the current views of Nordea Markets and Nordea Corporate and Investment Banking as of the date of this document and are subject to change without notice. This document is not investment research. This notice is not an exhaustive description of the subject discussed or the product described herein, or of their related risks, and it should not be relied on as such, nor is it a substitute for the judgment of the recipient. The information provided herein is not intended to constitute and does not constitute investment advice nor is the information intended as an offer or solicitation for the purchase or sale of any financial instrument. The information contained herein has no regard to the specific investment objectives, the financial situation or particular needs of any particular recipient. Relevant and specific professional advice should always be obtained before making any investment or credit decision. It is important to note that past performance is not indicative of future results. Neither Nordea Markets nor Nordea Corporate and Investment Banking is, nor does either purport to be, an adviser as to legal, taxation, accounting or regulatory matters in any jurisdiction. This document may not be reproduced, distributed or published for any purpose without the prior written consent from Nordea Markets. Nordea Bank AB (publ), Company registration number/VAT number 516406-0120/SE663000019501. The board is domiciled in Stockholm, Sweden.

Completion date: 6 October 2017, 09:54 CET

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