CalPERS is one of the largest asset owners in the world. Director Anne Simpson discusses responsible business, sustainable investments and climate change.
You are Director, Board Governance & Strategy, at CalPERS. Could you describe your business, and your role in it?
CalPERS is one of the largest asset owners in the world. We’re a pension fund and also a health system. Our members number nearly 2 million people, and we are investing their savings for retirement and looking after their healthcare needs. It was set up in 1932, in the middle of the Great Depression in the United States, as in response to the suffering of homeless and elderly people at that time. It has grown over the years to be one of the largest financial institutions in the world.
My role at CalPERS has changed over several years. I first went there to work in the Investment Office and look after all the governance questions around the portfolio. Then I took on a role developing a sustainability strategy thinking about issues such as climate change, and diversity.
More recently, I moved into the chief executive’s office and am focusing on our own board. They’re either appointed by stakeholders who pay into the fund on behalf of the taxpayers, or they are elected by the beneficiaries of the scheme, so CalPERS is very transparent. And it has a very participatory governance structure. I think when we're talking about governance for companies, or sustainability with our investment managers, it’s something which is really just infused right through CalPERS and the way it's been designed as an organisation.
What is your view of the role large asset owners like CalPERS play in society?
As a large asset owner in society, the first role that CalPERS’s plays is making sure that people have dignity in their retirement, that they're not in poverty, and that they can pay their bills. Also, that they have health care – something that in other countries is perhaps provided by the state or by the government.
The second part of our role is really linked to that first responsibility. In order to pay pensions and to finance healthcare CalPERS needs to earn money. We wouldn't be able to provide very much by way of benefits if it was just the contributions that people put in. What CalPERS does, because we’re an investment fund, is take those savings and put them into investments, which then grow over time.
So, we produce something for our members called the CalPERS pension buck, which shows how important those investments are. For every dollar that we pay to our members, most of that dollar, nearly 60 cents, comes from investments. It means that every CalPERS member has got an interest in making sure that the financial market is safe and sound and that we've got an opportunity for sustainable returns. Because we're looking not just over the next year or decade even, we think of our liabilities to our members as intergenerational. For example, those joining the workforce now saving for their retirement through to people currently in retirement who are receiving cash, while they’re in their old age
You were at the business school to talk about responsible ownership. What is responsible ownership?
A responsibility comes when you own something, or you have the ability to have an influence over it.
As an investor you have rights, and rights come with responsibilities, which means being thoughtful about the consequences of what you choose to do or choose not to do. In a large organisation like CalPERS, if we have a concern about a very big issue, such as climate change, or systemic risk, we’re making sure that markets are regulated. For example, we can join with other large investors and long-term investors and speak with a common voice.
But sometimes I feel that investors think that because they have a small holding in a company, they don't have the ability to influence a particular regulation. In fact, when there's a shared interest in something asset owners can speak together. It’s where they have the ability to overcome what’s sometimes called the ‘tragedy of the commons’. In other words, we all have a common interest in making sure the markets work properly, but the tragedy is that each individual investor hasn't got the ability to influence. So, one of our most important ways of working at CalPERS is through partnerships with other large investors, thinking very long term, and wanting problems to be solved, particularly when we can’t walk away from an issue.
You been dubbed a superstar in terms of your role in climate and sustainability investing. What does it mean to you to invest with economic or social impact in mind and are your members increasingly demanding it?
The first approach that CalPERs takes to sustainability is financial. We think about the financial capital that's entrusted to us, where we have a fiduciary duty to the people that money belongs to. We're acting for them. But money on its own does not produce anything of value.
But we also talk about the human capital: companies need to treat their people with respect, as assets, and not as costs to be reduced. The third form of capital is natural capital. Capital that comes from fresh water and clean air, and the physical capital that is built up through companies’ buildings and operations. Once you understand that value creation requires these forms of capital to be attended to, you begin to realize that the impact on human capital or the impact on natural capital is ultimately going to have an impact on your investment returns.
When we were building our sustainable investment strategy, we thought it was important to review the evidence around what really matters under these very broad topics: sometimes they're called ESG, responsible investment or sustainable investment. We did a big review of academic evidence and identified several themes where we could see the impact on financial returns potential over the long term. That was climate change as the theme of physical capital. Diversity and inclusion, because we could see the impact there on human capital.
On the theme of financial capital, we concluded that the one thing that matters first is alignment of interest. We get interested in the time horizon, the fee structure, the way that investments are put together, and they’re carefully designed to make sure that they don't spur activity or decisions which are going to cut across our interests.
In a recent Oxford Union debate you defined ESG and what it covers including things like climate change, resources, working conditions, corruption, executive pay and many more. Have you seen a change in reporting of these non-financial measures? If not, how are you making decisions to ensure you’re making sustainable investments?
The whole issue of what company’s report is stuck in a bit of a time warp. Financial statements are backwards looking, and they focus on tangible assets. If you look at the S&P 500 in the United States, the balance sheet under US GAAP (Generally Accepted Accounting Principles), misses about 85% of company value. The market understands these intangibles, but the accounting standards don't. Companies are starting to realize that customers, employees and investors are starting to really be concerned about environmental issues, so there's been this profusion of reporting, not just in the United States but across Europe and also Australia, parts of Asia, and in other markets as well.
The problem is that because there isn’t an agreed set of standards, there is a lot of information, but investors really don't know how to interpret it. In our view it’s time for the standard setters to pick this up, acknowledge that investors, for whom they work, really have an interest in these long-term sustainability metrics and start to build up some standards.
We've seen some very important initiatives by the Task Force on Climate-Related Financial Disclosure (TCFD). The only problem is that there is this excellent framework, but at the moment it is a voluntary measure. We think that the issue of data in corporate reporting needs to be made mandatory on any topic which can be material for a long-term investor, like CalPERS.
Now, I think, is the time for action. We want people to really start taking some steps, and if the TCFD framework could be adopted on both sides of the Atlantic by the two standard setting bodies (the SEC and IASB) who have very good worldwide coverage, I think it would get us away from these backwards looking standards which were designed for another age.
How can we as individuals and pension holders exercise shareholder power over companies to address issues they care about such as climate, executive pay, gender equality etc.
The question of how individuals can make a difference on the financial system can vary depending on the type of investment vehicle. If you're a member of the CalPERS pension fund, you've got the right to run the board. We have elections regularly, and you can see if you can get nominated by the nominating agencies, be it the Governor of California, or you might sit on the board because you’re ex officio state treasurer for example.
If you are saving your retirement money through a mutual fund, you don't have that right. You do have the ability to write to the manager that's investing the account and you can also go to regulatory filings to find out how they voted. At the moment, there’s a big discussion under way about what is the right form of accountability for fund managers. They’re taking the savings, they're investing the money, and there's a growing interest from members of the public, ordinary people, to say, ‘where's my money going’, ‘what's happening with it’?, ‘How did the fund manager decide to vote’, ‘what were the reasons’? I think with the growth of attention on the financial system but also on issues around sustainability, that that those questions will only increase.
I also think there should be more debate about on what basis managers can vote shares or exercise the votes attached to shares, if they haven't consulted with clients. In the United States we have something called broker voting, when brokers in the market would cast votes often for quite innocent reasons, like ensuring the company's had a quorum, because often in US meetings there has to be a certain percentage of votes cast for it to be valid.
The question that was posed is ‘well, on what basis are those votes being cast, and how do we know that you're reflecting the clients’ interest?
Can you tell me about Climate Action 100+
Climate Action 100+ is an initiative which CalPERS began during the Paris negotiations in 2015. We picked up a challenge from a group called the Principles for Responsible Investment (the PRI), which has been initiated at the UN. They challenged investors, like CalPERS, to look at the carbon footprint in their portfolio. In our case, just in listed companies alone we’ve got 11,000 or so holdings, so what do we know about the contribution these companies are making to climate change, through emissions contributing to global warming?
We didn't know the answer. So, we started a big data exercise to work out what was going on in our portfolio and we came to a very surprising conclusion: less than 100 companies were responsible for the majority of the emissions in the whole portfolio. If that's true for CalPERS it’s probably true for other funds as well, so with very generous hospitality from the French mission to the UN, we held a series of breakfast meetings with our investors, and investor networks.
In series one, networks in North America, their European counterpart, known as the Institutional Investor Group on Climate Change, and their sister organisations in Asia and Australia came together. We decided to take the list of global companies where we own shares in common and take the opportunity to engage these companies and talk to them about doing three things.
Firt for their boards of directors to take responsibility for climate change transition: including taking care of issues like lobbying, and making sure that executive incentives are all lined out with the Paris plan. That’s the governance piece - number one.
Number two, was to set targets. If we're going to get to well below two degrees warming under the Paris goals, there has to be about an 80% emission cut. These high emitting companies need to have strategies in place, because we want them to be in business.
The third part is we want these companies to report under the framework that's been set out by the TCFD, so that we can monitor the progress that they're making.
We launched this initiative a year and a half ago, now around $33 trillion in assets lined up around these three goals.
We started to have some very encouraging results from companies like Shell, which has issued a written agreement with the lead investors and its board of directors, which sets out how they're going to respond to all these things. And also, we have companies like BP, Glencore, and a number of utilities in the US, where we're seeing these companies responding positively to the engagement and issuing their plans to come in line with the Paris goals.
What advice would you give your 25 year old self?
My 25 year old was full of curiosity, I was full of energy. I suppose I was very inspired with a sense of purpose. Perhaps the most important thing for your career: to thine own self be true. Do something that you care about. You’re at work for a long time, but at the end of the day make sure that it’s something you care about. Because then you’ll have your best ideas, you’ll want to be part of a team, and be solving problems. If I were to sum it up, I would say whatever you’re doing, leave it better than you found it. You may not have a heroic impact but just make sure you’re doing your part.
What do you think is the role of business schools in addressing issues around financial sustainability and planning, particularly around questions such as climate change?
I think business schools have a really important role because there are some ‘old fashioned’ skills that you need to understand. It might be financial or analytical skills, or if you’re going to go into a leadership role hopefully you’ve done some thinking about governance and strategy and you understand what accountability means, and how to blend finance and your legal responsibilities and ethics, and understand communication. I would also say the refresher courses for people who came into business years ago and the world’s changing so they’re looking at what’s going on with technology, or cybersecurity for example. The millennial generation and beyond are coming with a set of values and questions which are not familiar, so business schools have got a really important job which is to help those in established positions of influence to understand how the world is changing around them.