Interview: Uni.lu Dr Mathis Explains ESG for Socially Responsible Investments

Chronicle.lu recently had the opportunity to speak with Dr Peter Joseph Mathis, Research Scientist for Sustainable Finance at the Department of Finance, University of Luxembourg (Uni.lu), to discuss environmental, social and (corporate) governance (ESG) in the world of finance and its role on impact funds, green bonds and sustainable bonds.

Dr Mathis' research interests include investment management, asset pricing and corporate finance, and in particular the interaction of these fields with ESG, broadly as a part of socially responsible investments.

Dr Mathis is also the CEO and owner of M Capital Advisors SA, a Luxembourg-based independent research and consulting company founded in 2014 specialising in asset management and advising on liquid assets like hedge funds or valuation of illiquid assets like capital and risk management cost analysis. Before joining Uni.lu in 2020, Dr Mathis did research and teaching at the Saarland University (Universität des Saarlandes, Germany) and at the Indiana University (United States). He also served in various capacities in different banks and asset and investment management companies.

Chronicle.lu: Please tell us more about your research interests at the University of Luxembourg and the decision to return to academia after nearly fifteen years in the corporate world?

Dr Mathis: My research focuses primarily on investment management, asset pricing and corporate finance and especially how ESG considerations alter decisions and interact with these fields. During my career in the investment management world in very different spaces – Hedge Fund, Institutional Asset Management, Private Banking and in a single Family Office – I kept a close relation to scientific developments in the academic world and how they can be applied. On the other hand, I was always thrilled by the interaction with students, to share my experience, what I see as important to succeed in practice. A form of giving back if you want. I am very happy that I have now gotten back to the academic side of things, and to do this in a field which is extremely relevant for our future on the planet.

Chronicle.lu: Could you please explain ESG and its importance for a common investor?

Dr Mathis: Let us start with a clarification. The role of finance is to channel money from those sectors who have a surplus of means or savings – usually households directly and indirectly via institutions acting on their behalf like pension funds, insurance companies or banks – to those sectors who need the funds for investments, mostly companies. In the last years, the term sustainable finance was coined, meaning that financial markets have the additional task of making sure that investments are not only bringing a risk adjusted return, but also should be sustainable. That is when financing takes place a consideration of environmental ("E"), social ("S") and governance ("G") aspects are taken into account. So for a common investor this means he or she not only invests for a return, but also with a consideration of doing something positive for the planet, if he or she wishes to do so. And guess what, most investors want that. A massive amount of capital has been mobilised by private investors into funds which have a ESG focus.

Chronicle.lu: Could you please elaborate on the term "impact funds" and ESG's role in these funds?

Dr Mathis: In a lot of those funds with ESG focus, the portfolio manager does not invest in companies in objectionable categories, e.g. guns, alcohol, tobacco, gaming or oil companies, etc. We say the investor invests with impact, meaning he or she invests with the hope this has an impact. The fact however is that the impact in the real world is unclear or small: Imagine that for some objectionable companies 10% of the investors are not buying the stock. This is very different from saying 10% of customers are leaving. This brought up impact investing, so investing for impact. Here the portfolio manager invests for example in an oil company and in conversations with the management of the company addresses changes which the company should make to become a better, cleaner company. The portfolio manager addresses his interests as an owner and brings forward changes, maybe together with other owners. So the investment does have a real impact.

Chronicle.lu: In terms of bond markets, what are "green bonds" and "sustainable bonds"? How do they differ?

Dr Mathis: In the fixed income, world owners of bonds just lend money, they are not owners of the company.

Green bonds are fixed-income debt where the proceeds are specifically used to finance environmentally-friendly "green" projects, assets or activities. So the money is earmarked to a specific activity. Examples of project categories eligible for green bond issuance include renewable energy, energy efficiency, clean transportation, green buildings, waste water management and climate change adaption. Great instrument, because there is nothing else the borrowing party can do with the money. Biggest issuers are companies, but also governments. However, the market share of green bonds on overall bonds globally is still small, just 1%. A large single issuer is the European Commission and its agencies.

With Social bonds the proceeds must finance or refinance social projects or activities that achieve positive social outcomes or address social issues. Examples for social bonds include food security and sustainable food systems, socioeconomic advancement, affordable housing, access to essential services, and affordable basic infrastructure. Largest issuers here are understandably governments, on a central or local level.

Sustainability bonds are bonds where the proceeds are used to finance or re-finance a combination of green and social projects or activities. These bonds can be issued by companies, governments and municipalities.

Chronicle.lu: With all the different fund and bond labelling, how can a common investor make a socially responsible investment?

Dr Mathis: That is not an easy question. The label and the contents are sometimes different. We call this "green washing"; some funds were labelled green because of the investor interest, but when looking at the contents some were not so green. For funds it might make sense to consider ratings from external rating agencies as a first step. But it may still be investing with impact, meaning the fund manager excludes certain stocks. Offerings for investing for impact are unfortunately not products one can easily obtain.

Depending on the sum to invest, social bonds can be bought directly, however the minimum investment can be quite high, €50,000 or €100,000. Plus investing in ESG bonds can be a complex and difficult undertaking. The same company or government may issue a number of ESG bonds financing different projects and carrying different ratings. How to compare and to choose?

Chronicle.lu: According to a recent estimation, only about 2% of global funds can be broadly classified as "impact funds". Are these funds not attractive enough for asset managers or are they fundamentally limited in scope? Or are there other main reasons for such a small basket of "impact funds"?

Dr Mathis: I would say this has to do with the fact that most asset managers have started their activities in the ESG space by working via exclusion or following ESG benchmarks, relatively easy to implement. And the demand of the customer was there, and there was money to be made from telling customers what they want to hear: Make money and have an impact. Now we see first disappointments on the side of the customers. After a decade of rising markets, stock prices fall, losses mount and the commitment of the capital of the investors seems to shrink, they start pulling money out. On top of that, we have seen some "green washing" scandals and questions on the real impact of this way of investing.

My opinion is that we will see a lot of changes towards impact investing. To really see an impact, we need more "activist funds", so funds which exert pressure on the management of companies to make changes which will have bigger material impact, whether in E, S or G. But this requires asset managers to change the way they work and that might take some time.

Chronicle.lu: In your opinion, what are the main challenges at EU level to incorporate ESG in global bond and fund markets?

Dr Mathis: A very difficult topic. Financial markets on the bond and the equity side are truly global markets, and the EU is a relatively small player compared to the US, China, India and the rest of the world.

It is great that the EU has started to move fast ahead with the regulations which have been implemented. The big issue for asset manager is that we now have different EU regulations and in all these different parts and not one framework to handle. And that's a real challenge for asset managers as all these single regulations are different.

And on a global scale: The central problem with the whole ESG approach is there are no universal guidelines or benchmarks or standards. One of the key weaknesses is that it's hard to come up with common definitions about what actually constitutes ESG investing. So in short: a massive challenge.

Chronicle.lu: In the wake of the current geo-political crisis in Europe and in particular, the fallout of the Nord Stream 2 project, heavy investments and resources in the energy sector foreseen will likely push the global sustainable development goals (SDGs) further into the future. How do you see the current developments will affect "impact funds" and sustainable (green) projects in energy sector?

Dr Mathis: Absolutely correct, the current geo-political crisis will not help to achieve a faster implementation of SDGs. Even the opposite: if you look at the German decision to re-activate coal fired energy production, this is a step back. We must also [remember to be] non ideological, for example when it comes to the role of nuclear energy. And there is no monopoly of wisdom. Impact funds will have a role to play and I do not see how their role will change. We need much more venture capital which goes into projects in the energy sector, and I hope this will continue.

Chronicle.lu: The EU has set 2035 as the deadline to stop selling fossil-fuel passenger cars and vans, one of the milestone decisions to reduce CO2 emissions. From an academic point of view, taking into account the immense amount of electric batteries and charging stations needed to support the fully electric fleet in future, how will this impact "green and sustainable investment"?

Dr Mathis: I think the EU Parliament's decision is a mistake, it is too ideological. As a consequence, it will shift and direct resources too much in one direction, without exploring other alternatives. We need a big move into research and development efforts. And to be open-minded.