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ESG gains traction among hedge fund investors
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Investing with an eye toward Environmental, Social and Governance (ESG) considerations has been gaining traction across a broad spectrum of investors. It should come as no surprise then, that more investors are placing a greater emphasis on ESG in their hedge fund (HF) allocations.

In the most recent survey of such investors by our Strategic Consulting team, 22% of respondents indicated that they are placing a high priority on ESG in their hedge fund allocation decisions –– more than double the year prior. A full 40% of investors in Europe, the Middle East and Africa are looking to integrate ESG into their hedge fund holdings, while Private Banks and Funds of Hedge Funds (FoHFs) were at least twice as likely as institutional investors to focus on ESG. Notably, investors with higher assets under management tend to prioritise ESG products when allocating to hedge funds.

While it’s unclear whether ESG is a primary driver in manager selection, or one of many deciding factors, survey results suggest that ESG is material in investors’ decision processes. Investors appear to recognise that hedge funds that incorporate ESG in their strategies have the potential to move the needle –– both in terms of returns and corporate behavior –– through activism, proprietary screens, long-short strategies, and other levers that may be less prominent in traditional portfolios.

In this 3 Point Perspective, we look at what’s behind the trend and what it means for hedge fund managers and investors.

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Investor preferences and values are driving interest in ESG

So what is driving the increased priority of ESG among hedge fund investors? In the Strategic Consulting survey, nearly 70% of respondents indicated that value alignment was a key driver in ESG interest, followed closely by investor preferences.

Allocating to ESG at hedge funds is more prominent at Private Banks and Fund of Funds, driven primarily by those investors looking to make allocations that align with their own values and / or to align with their underlying investors’ preferences.

Drivers of ESG allocations among hedge fund investors
Drivers of ESG allocations among hedge fund investors

Source: Barclays Strategic Consulting Analysis

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Investors want to see ESG integrated into the investment process

Investors are looking for integration of ESG across a variety of elements when it comes to defining their hedge fund allocations. Firstly, investors who prioritise ESG in their hedge fund allocations, indicated that it should be incorporated into HFs’ investment processes. And nearly half believe this is done best when hedge funds develop their own proprietary ranking systems rather than relying exclusively on external data when evaluating investment ideas.

Secondly, the majority of investors prefer that hedge funds focus on all three pillars of ESG equally. However, ‘E’ is the pillar of greatest focus, especially in EMEA where roughly 30% of investors focus on environmental factors versus 20% in the Americas.

Finally, investors have a clear view of which hedge strategies ESG is most applicable within: Equity long short (94%), followed by Activist (84%), and Credit long short (66%).

Investors feel strongly that ESG can be integrated into a variety of strategies
Investors feel strongly that ESG can be integrated into a variety of strategies

Source: HFR, Barclays Strategic Consulting Analysis

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Investors are willing to seed ESG hedge fund products

Investing with an ESG lens adds nuance to portfolio construction. In addition to weighing traditional risk and return factors, investors often have preferences for how ESG is incorporated into the investment process. Because these solutions may not exist, many ESG investors are interested in bespoke hedge fund products.

In the survey, 60% of ESG conscious investors said they would be willing to seed ESG-oriented hedge fund products, namely with a well-known hedge fund or for the right product. This sentiment is especially strong among FoHFs (78%) and EMEA-based investors (75%). Of the investors willing to seed new products, one third have more than $2 billion allocated to hedge funds.

A range of investor types indicate willingness to seed new ESG products
A range of investor types indicate willingness to seed new ESG products

Source: HFR, Barclays Strategic Consulting Analysis

To learn more about how hedge fund investors view ESG related to allocations, please ask your Barclays Investment Bank representative for the April 2021 ESG Investor Pulse report, or contact the Strategic Consulting team at strategicconsulting@barclays.com.

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