Published 2017-11-22This post is also available in Swedish
Mistra’s aim: to create a greener financial market
Can hedge funds be sustainable investments? That was the question to be answered during a workshop held by Mistra in October. Mistra is now taking the first steps towards influencing this important part of the financial market.
‘Although hedge funds have become slightly less significant, they manage huge sums. Anyone who, like Mistra, wants to change the financial market towards more sustainability can’t overlook them,’ says Klas Eklund, an economist and member of Mistra’s Board of Directors and Asset Management Committee, who participated in the workshop.
Hedge funds are hard to handle from a sustainability perspective. They often consist of short-term investments of very different kinds: futures, derivative instruments (various types of options), interest rates, etc. Their trading takes several forms; they speculate on ups and downs; and they sometimes borrow money to trade ‘short’ (in brief, speculating where they expect a price fall). As an investor, it is very difficult to gain insight into the social and environmental impact of such investments.
‘Hedge funds can do almost anything on the financial market. And different funds can have completely different strategies. This makes it extremely hard to measure the impact hedge funds collectively have on society at large,’ Eklund says.
Nevertheless, Mistra has a long-term desire to measure the sustainability of hedge funds. This is not just because hedge funds are a significant part of the financial market, but also because it is important not to close the door but, instead, try to influence the hedge funds in the right direction — which is difficult, but not impossible, according to Eklund.
‘It’s a big, important task that Mistra has now begun to take on. We’re already doing this when it comes to standard funds. There, it’s easier because we know which companies the money is invested in how society is affected. Now we must try to measure something that is much more elusive,’ he says.
Hedge funds are not known for being open and transparent. Efforts to make them more sustainable are largely about increasing access to information, such as what strategies the fund is applying and which people are making the trades.
Where the money goes is rarely visible, since the trades are made so rapidly. Instead, one must trust that the hedge-fund managers are people whose decisions are based on values that promote sustainability.
Andreas Hoepner, Professor of Operational Risk, Banking & Finance at University College Dublin, participated in the workshop. He has a somewhat sceptical view of hedge funds, although he sees that there are exceptions. Hedge funds far from always deliver what they promise, he thinks. Instead, the investors put the money in a black box with no transparency.
‘Many sell dreams and visions, but in 90% of cases, they don’t know what they’re doing.’
Hedge funds are often technical: they apply mathematical tools. A way to get an indication of the fund’s quality is to look at the skills of those who manage it. Are they computer scientists or mathematicians? Or are they marketers?
‘One of the best hedge funds in the world was founded by a professor of mathematics,’ says Hoepner, who is associated with the Mistra Financial Systems programme.
In contrast, if there is nobody in management with a PhD in either computer science nor mathematics investors should become wary, Hoepner argues.
And for an investor with green ambitions, there are plenty of options without venturing into hedge funds at all, he says.
Hoepner is careful not to tar all hedge funds with the same brush. There are those that are more transparent and his assessment is that regulations governing the funds work better in Sweden than in the UK. He encourages investors to pose questions (‘loads of questions’), to those who allocate the fund investments — something that applies to all investments, but especially hedge funds.
‘There’s actually nothing stopping hedge funds from being transparent and having a sustainable strategy. It’s about which questions investors ask. What are the principles? What instruments and technology are used, and what are the strategies like?
One feature that hedge funds have in common is that they aim to always provide returns, regardless of whether the stock market goes up or down — a ‘positive absolute return’, as it is called. This means they think they need a freer rein to act as they want and, accordingly, sustainability issues slide further down the priority list.
Emma Ihre, Investor Ombudsman at the Nordkinn fund and Head of Sustainability at Mannheimer Swartling, specifically emphasised ‘transparency’ as a keyword when it comes to hedge funds.
One mistake many people make, in her view, is to see hedge funds as an asset class and not an investment strategy.
‘Or several investment strategies, actually. And because hedge funds have such a free investment mandate and are slightly secretive, they’re often hard to analyse. But by being transparent to the investors, we create value for them and for society.’
How much information can an investor get, in practice?
‘A great deal. The main thing is equal treatment of all investors and, to my knowledge, there’s no information that is kept secret from them, since it’s their money we’re managing,’ Ihre says.
But do green investment and sustainability mean needing to accept lower returns? This question arose during the workshop and Magnus Dahlquist, Professor of Finance at the Stockholm School of Economics, stated that it might be so. Interest in green investments has increased so much in the past few years that product prices have been pushed up, he explains.
‘And that lowers the returns. These things are connected,’ Dahlquist says.
Mistra’s CEO Åke Iverfeldt, who hosted the workshop, believes that Mistra has an important role in redirecting the financial market towards greater sustainability and that this criterion must be applied to all kinds of investments.
‘We make demands, and of course we should make vigorous use of our tools: our statutes, our researchers and our capital investment policy. We have a position in the market and in research that enables us to contribute to developing hedge funds too. We can be the bridge that is needed for a developing discussion between various stakeholders and interests,’ says Iverfeldt.
He says that Mistra has invested in two hedge funds, totalling roughly 6% of the Foundation’s capital.
Looking ahead, Iverfeldt sees Mistra continuing to hold this kind of discussion, to which various stakeholders who think and speak freely are invited.
‘It has a multiplier effect and gets processes going.’
This matter of generating positive processes may be the most effective step towards inducing the hedge funds to make more sustainable investments.
‘Ultimately, of course, it’s a matter of being able to measure sustainability, in hedge funds as elsewhere. But we’re not there yet, so now it’s important to build trust and create a practical, constructive dialogue,’ Iverfeldt says.