Funds that pension schemes are investing in have made “good progress” on environmental, social and governance (ESG) considerations over the past year, analysis from XPS Pensions Group has found.

XPS surveyed its client base and the funds they invest in, reviewing 227 funds across 53 managers and assigning them with green, amber or red ratings for ESG risk management.

It found that ESG risk management had improved across its client base, with the overall proportion of assets under management rated ‘green’ for ESG having increased from 36 per cent in 2022 to 47 per cent in 2023.

Furthermore, 18 per cent of XPS’s clients were invested 100 per cent in green ESG rated funds, up from just 2 per cent last year.

The consultancy found that improvements were particularly prominent in equity and multi-asset fund managers.

Improvements across XPS’s client base were primarily driven by the underlying ratings, rather than by pension schemes making decisions to switch into funds with higher ratings, according to XPS.

XPS described this as “encouraging” and said this could be a signal of engagement with, and improved actions by, current managers.

However, the consultancy warned that the results showed that laggard managers remained, and further engagement and progress was therefore required, and that there may be schemes that could consider switching to funds that better integrate ESG.

“The vast majority of schemes have indicated that they believe ESG factors to be financially material, and therefore it’s critical to invest with managers who fully embed ESG into their investment process,” commented XPS Pensions Group head of ESG research, Alex Quant.

“Integration of ESG is an important part of good investment management, ensuring better management of risk, and as a way of identifying market opportunities.

“It’s clear from this high-level analysis that managers in general have made good progress in the last year, whilst others still have room for improvement – we will unpack the key trends in funds and asset classes further in our more comprehensive Ratings Review report which will be released in late summer.

“For those schemes invested in managers with inadequate ESG risk management, we believe this is a material concern and should lead to questioning of whether this is considered acceptable and what timeframe might be put in place to assess if action is required.”

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