Great insights from Larry Fink on ESG

By Larissa Fernand |  06-11-20 | 

Laurence (Larry) Fink is the chairman and chief executive officer of BlackRock, the world’s largest asset manager.  Mr. Fink has been named one of the "World's Greatest Leaders" by Fortune, and Barron's has named him one of the "World's Best CEOs" for 14 consecutive years.

He has been vocal on ESG issues (an acronym for Environment, Social and Governance) front and has attempted to influence corporate America and corporations at large in that direction.

He has placed ESG at the centre of BlackRock’s investing approach and has made sustainability integral to portfolio construction and risk management.

Here are his views.

The urgency of ESG.

The question of climate change is being raised by our clients throughout the world, whether in Saudi Arabia or in Houston or in Sacramento or in Europe. And it was raised not just by our clients but by regulators and government officials.

In September 2019, when I had meetings with the United Nations and the International Monetary Fund, the urgency of the conversation became very clear to me.

A fundamental reshaping of finance.

As finance now starts looking at potential climate risks, it raises so many different capital-allocation questions.

One great question was asked by a client: “We never think about climate change as a risk. And yet we’ve been great investors over the long run because our time frame is 10 to 15 years. Now, through the lens of sustainability and climate impact, how do I think about our strategy for today? Can we expect the same type of positive outcomes and liquidity? Should we factor in the physical impact on some of our investments—whether physical investments, like real estate, or municipal investments in cities and states?”

They raised many large questions about whether they should think about investing differently and whether they should add the lens of climate risk to their long-term investment strategy. And the answer is yes.

Climate change is investment risk.

As we sit here today, there is a hurricane, raging fires, 5 tropical storms in the Atlantic, and record heat levels this year throughout the world. We are seeing more and more examples of climate change becoming investment risk.

Insurance companies in California want to raise the cost of insurance. That is investment risk. The greater the potential for loss, the higher the rate. This will be a tension area for all insurance companies.

For flood zones and fire zones, insurance companies will have to moderate their rate structure to accommodate the new reality of climate change. Insurance companies are trying to raise their rates because their reinsurance rates are going up. The persistence of fire is now changing the cost of home ownership because home insurance is going up.

Significant reallocation of capital.

Because capital markets pull future risk forward, we will see changes in capital allocation more quickly than we see changes to the climate itself. 

Insurance companies are looking at climate change and how they should insure. In the U.S., insurance rates are generally set by state insurance commissioners. It’s very hard for an insurance company to raise rates extensively even if it thought a jurisdiction may have real, physical climate risk. So, suppose you buy a house, and you think you’re going to live in that house for 20 years. Your insurance has to be renewed every year. But the house is in an area where the insurance company does not have the ability to raise rates unless reinsurance rates are raised. In the interim, it may say, “I can’t provide you with coverage anymore.” Then you have this long-term asset that you want to protect, but the insurance companies may not insure you. That is another form of capital allocation and reallocation.

Stakeholder capitalism.

Stakeholder capitalism is fast gaining in traction. It is getting bigger and bigger. Companies that focus on all their stakeholders - clients, employees, customers, the community, shareholders – they will be the best performing companies.

Let’s be clear, the primacy of every company is to your shareholders, they are the owners of your company. But if you are going to have sustainable and durable long-term profitability, you must also focus on your other stakeholders.

I am an environmentalist, but I wrote my Letter as a capitalist.

Companies that still have their leadership heads in the sand when it comes to climate change and investment risk will be smaller companies. If you just look at the price/earnings (PE) ratios of some of the energy companies that are in the alternative space versus traditional hydrocarbons, you’re seeing a real transformation. This is going to continue.

The picking up of ESG.

The existential health risk of COVID-19 has only made climate risk and ESG a larger component of the investing universe. We have seen record inflows into sustainable products. In the first six months of 2020, the inflows into sustainable ETFs surpassed the amount in all of 2019.

As of April 30, 2020, more than 70% of the 5,600 active portfolios managed by BlackRock are fully ESG integrated. We are committed by the end of the year to have ESG metrics integrated in all of our portfolios.

Impact of the pandemic on the workforce.

One of the great humanistic discoveries from COVID-19 is that we can work remotely. I don’t think the BlackRock workforce will be 100% back in office; maybe 60-70% on a rotational basis. I doubt we will have a full cadre in office back. Some functions work really well remotely, others do not. I don’t think we will be the same firm operationally as before Covid.

This is a new work force. A new paradigm. I think we will be a better firm because of this. Those who have commutes ranging from 1 to 2 hours will save on time. It will lead to a better and more robust work force.

If many companies adopt it, there could be less congestion in cities and less pollution too.

Sources:

  • Fink’s conversation at the Morningstar Investment Conference, Chicago
  • Fink’s conversation at the CFA Society Toronto
  • Fink’s interview with McKinsey
  • Fink’s influential Letter to CEO
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