25 Nov 2020Raphael Müller

How to integrate ESG in investment advisory

We don’t see ESG as merely a simple data attribute – we see it as a way to introduce new dimensions when talking about investments with end-clients. Therefore, it has to be implemented as an integral part of your investment advisory process, on par with other elements like asset allocation, performance and risk.

In a traditional portfolio review meeting, the discussion mainly focuses on allocation, performance and risk. Now, with ESG, an advisor can introduce some new talking points and approach the conversation with environmentalism and sustainability in mind – topics that are close to the heart of the client. Furthermore, in a year with difficult markets, when performance is not necessarily a source of good news, a portfolio can still look positive from an ESG perspective, having been invested exactly in line with the client’s ESG values. With that, you can create an emotional return for the client and bring in a positive twist to a difficult performance discussion.

As a wealth manager, you can derive new business opportunities from ESG by proposing reallocations, triggered by ESG criteria. This can lead to a substantial number of meaningful client interactions and subsequent transactions. However, to unlock this potential, the user journey must start with solid advice on ESG.

To get to a point where sustainable investing generates new business opportunities for your advisory business, you need to implement ESG as a tool throughout your investment process. Let’s have a look at how this works in practice using Avaloq Wealth.

ESG in the client profile

Make sure your tool for client profiling supports capturing ESG preferences. Clients should be able to express their accepted minimum level ESG score in a quick and intuitive way. We implemented this in the Avaloq Wealth Investment Advisory Tool as a 1-10 scale. When setting a client’s ESG preferences, it is important to explain to them the impact of their decision and highlight the respective investment trade-offs. A selection of stricter ESG criteria always limits the available investment universe. The higher a client sets his ESG standards, the harder it is to achieve a decent risk-adjusted expected return. We visualized the shrinking asset universe as an intuitive spider chart, which dynamically reflects the chosen ESG preferences and their impact on the available assets among different sectors and industries.

ESG Preferences

Of course, a decent wealth management application should allow the selection of even more granular preference settings. In our profiling solution, a client can define different minimum levels for environmental, social and governmental criteria, each broken down to even more detailed factors. For example, in the case of environment, it could be emissions, resource use or innovations. Even more, a client's ESG preferences can be defined as hard- or soft constraints and will be treated as such in subsequent stages of an investment journey. As such, an ESG profile has a similar effect on future investment proposals as does a client’s risk profile, influencing many future investment decisions.

ESG in investment proposals

The definition of a client’s ESG profile is a welcome opportunity to conduct a health check and measure the existing portfolio against its newly-defined ESG targets. Every portfolio health check could be a door opener to a new investment proposal, solving the detected health issue. To demonstrate the need for action, it is important to show the client’s ESG targets alongside their other goals, like asset allocation and risk. When creating an investment proposal, our Portfolio Construction Tool delivers instant feedback on all relevant dimensions, including ESG. The Portfolio Construction Tool is designed to be used directly in client conversations, allowing advisors to react to client inputs right then and there. Different proposal versions can be created, analysed and put side by side – easily comparing expected risk/returns, stress tests, allocations and ESG impact. The ESG target achievement is depicted with a scale of 5 leaves. This is sustainable investing, explained as intuitively as choosing a spicy dish in a restaurant.

Figure 2

Of course, our solutions also support your investment advisory by selecting the right instruments for a specific advisory situation. Our “Explore” panel is the window to the CIO office and shows the houseview, themes and recommendation lists of the bank. All content presented to the advisor in the “Explore” panel is customized to the specific advisory situation, respecting the regulatory profile of the client, target market, client location, advisor location, and so on. To select appropriate assets from an ESG perspective, the advisor is equipped with different filters that allow one to narrow down the asset list and find matching instruments that fulfil all the needed criteria.

Figure 3

ESG in portfolio analytics

ESG adds a new dimension to portfolio analytics and investment reporting, as well. In addition to the parameters on performance, asset allocation and risk, you can slice and dice a portfolio to review the impact of ESG-driven investment decisions. Show your clients how their portfolio works against their ESG targets. From the overall portfolio level down to the individual instrument, our wealth management platform allows you to analyse these items along ESG criteria, both as a report capturing the moment, as well as by visualizing the progress of sustainability targets over time.

Making ESG advisory a standard procedure

As we covered in a previous blog, financial authorities around the globe have started to implement ESG regulation for wealth managers. We clearly see the business opportunity outweighing any legal pressure as your motivation to make a move. Together with our industry-leading clients, we continuously add additional features to our ESG solution. We believe that the effort needed to integrate ESG seamlessly into a portfolio management service will pay out for a wealth manager. Don’t see sustainable investment as something that you can cover with an additional list of themes and products or some data attributes in your system. Instead, promote ESG as an added value for your clients, a guide for more meaningful portfolio discussions and a driver of new business.

Written by Raphael Müller
Raphael is a Senior Product Manager and responsible for Avaloq’s Investment Advisory application, a tool within our new Wealth platform. Before joining Avaloq, he developed products and investment processes for major banks and Fintechs alike. Raphael holds a master degree in Banking and Finance from the University of Zurich and is a CFA charterholder.
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