“We’re at the beginning of the ESG data wars. There’s more data coming onto the market with more information that’s tremendously useful, if only you can process it. This means analytics firms, data generators, like the exchanges, financial information providers, like Refinitiv and others, are all struggling to solve this question.”
–William Trout, Head of Wealth Management, Celent
Will is a highly visible wealth and asset management commentator charged with spearheading growth of retained advisory and research services for IT strategy arm of global technology consulting leader Oliver Wyman. Keynote speaker on digital advice widely quoted in publications such as Bloomberg, CNBC, Financial Times, New York Times, and the Wall Street Journal.
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Companies & People Mentioned
- Act Analytics [21:32]
- Appirio [11:36]
- Arabesque [15:08]
- BlackRock [06:23]
- Bloomberg [14:51]
- Celent [02:26]
- Elemental Analytics [15:05]
- ISS Analytics [19:17]
- Morningstar [14:48]
- MSCI [18:23]
- Natixis [11:35]
- Orion Advisor [11:48]
- Parametric [11:40]
- Refinitiv [00:19]
- Robinhood [10:58]
- Sustainalytics [16:19]
- TruValue Labs [15:07]
- UBS [06:34]
- Wealthfront [12:49]
Topics Covered in this Episode
- Screening vs Integration [5:00]
- Direct Indexing [10:00]
- ESG Data Requirements [14:00]
- Roles, Workflow, and Integration of ESG [23:00]
- 50 Portfolio Management Software Solutions For Advisors Can’t All Survive
- #ItzOnWealthTech Ep. 62: Can Just Invest Deliver on Their Vision of ESG 2.0?
- #ItzOnWealthTech Ep. 53: Can Sustainable UMAs Help Save the World?
Complete Episode Transcript:
Craig: There are trillions of dollars flooding into the ESG investment space. The number of firms that have built out data infrastructures to aggregate and analyze ESG related information has exploded. They’re all rushing to reach economies of scale and develop distribution capabilities to claim their share of the market for ESG data. I spoke with Will Trout about his new report on ESG in portfolio management, how discrete client stock restrictions are slowly being replaced by an integrated approach, and a whole lot more on this episode of the Wealth Management Today podcast.
So great to have you here with me in the wonderful world of wealthtech. You’re listening to episode 67 of the Wealth Management Today podcast. I’m your host, Craig Iskowitz, and I run a consulting firm called Ezra Group. We’re experts in everything related to wealthtech and wealthtech strategy, wealthtech operations. We deliver growth oriented solutions to banks, broker dealers, asset managers, RIA aggregators, as well as all those wealthtech providers out there through our premium advice and targeted market research. On this podcast, I speak with some of the smartest people in the industry who are on the leading edge of technology and innovation.
I’m happy to introduce my next guest on the podcast is Will Trout, Head of Wealth Management at Celent. Will, what’s going on, man?
Will: Hey Craig. Good to see you again.
Craig: It’s good to see you as well. Since we don’t have any conferences to go to, we don’t see each other as much as we used to see each other.
Will: I know I have the buffet all to myself.
Craig: No more running. We used to get to go running in the morning in whatever city we were in, whatever places we were that always fun. So we’ll have to figure out how to do that again. But this podcast, we’re talking about a new report that Celent and just put out, that you just put out a it’s called “ESG in Portfolio Management From Data to Deployment”. And before we do that, can you give us a quick 30 second elevator pitch for Celent?
Will: Sure thing, and Craig, I’ll give you the 15 second version. So Celent is a division of Oliver Wyman where the research and advisory arm of the business and our focus is the intersection of strategy and technology in financial services. I head the wealth management practice.
Craig: Excellent. So let’s talk about the report. Let’s just dive right in “ESG in Portfolio Management From Data to Deployment”. So ESG is a big, hot topic. Everyone’s interested in it. We’ve done a couple podcasts on different aspects of it, and some of the key points pulled out of the report, the money’s flowing is this huge amounts of assets flowing into ESG. What are you seeing there?
Will: Well, yeah, ESG is exploding in terms of the asset flow. So several observers have estimated certain ESG driven investments is totalling more than $30 trillion, and that was two years ago. That was in 2018. Today we’re approaching $50 trillion and should reach $53 trillion by the end of 2021. So whether you talk about funds or managed accounts or other types of investments, you’re seeing an explosion of interest in the topic, and I think a lot of people understand ESG environmental, social, governance criteria. It’s mostly E so environment or sustainability, but obviously with the social tensions and governance issues that have emerged in recent years, you’re seeing a broader adoption of this criteria for investment decision making.
Screening vs Integration
Craig: I want to focus on a couple of parts of the report which I think will be more interesting to our audience. We work with a lot of broker dealers, banks, managers and implementing systems and building software around managed accounts, fee-based advisory platforms. So I was really interested in the section you have on screening versus integration. I didn’t know what you meant by those terms. Can you explain what you mean by screening versus integration in terms of ESG?
Will: Great question Craig. And so screening, I think everyone understands, sort of at an intuitive level, right? You might say restrictions, or you can screen out an entire sector, say oil and gas, for example, or you can screen out individual companies, ExxonMobil that have a heavy carbon footprint. Integration on the other hand is a more holistic wide lens approach where you’re basically taking into account ESG criteria, from the very beginning of the investments process.
And so you’ve seen, BlackRock, for example, announced that all investments are going to be ESG driven or rather their actively managed funds are going to be ESG driven from 2021 onward. And UBS just announced something similar. I think what investors and what portfolio managers are doing is adopting a more sophisticated approach to investing. So ExxonMobil actually may be a great fit for your portfolio and they have a carbon footprint to be sure, but they’re doing a lot of social good and positive actions from other standpoints perhaps. And do you want to restrict your portfolio in a way that will lead to underperformance? That’s a big difference. The integrated approach does not assume any sacrifice of returns whereas the screening approach says, Hey we’re going to screen out this company and if it damages returns well, that’s part of the game.
Craig: Exactly. We always did screening. I mean, all the systems we built or helped design for custodians or broker dealers. There was always a restrictions part of the managed account process where you lock out different groups of stocks, either by getting of feed from a vendor that said, here’s our list of stocks where you can block oil and gas, or weapons, or energy, at different levels, or specific stocks. Whereas now, as you said before, you were willing to underperform if tobacco stocks outperform because you didn’t want them. With the integrated approach that doesn’t happen.
Will: Yeah. I mean, the screening method is a pretty blunt tool. It’s sort of the hammer approach, Craig, whereas with the integrated approach, you’re really looking at the whole portfolio. And so you’re not being as black and white in terms of your decision, you’re going to see where the portfolio fits from a broad perspective and not restrict or exclude any particular firm or actor from the get go.
Craig: So would this be, if you’re looking at the technology part, like at a wealth management platform vendor, they wouldn’t be dealing with integration that comes from the asset manager?
Will: Well, a lot of the business is funds, mutual funds or ETFs. And so if you’re looking at, at those products or individual securities, it is possible to screen out as firms have been doing for years, sectors or individual securities. It’s really about, as I talk in the report, rebalancing software allows you to get granular in terms of the holdings. And so that might be part of a trading platform or that might be self-standing rebalancing traction. There are a number of ways to slice that.
Craig: That’s something we see a lot. We have a number of clients who offer rebalancing software, and I know they’re always looking for differentiators and I think this could be something that they could offer that would help their clients deliver better results to their clients.
Will: Well, absolutely. And you’ve seen the growth of direct indexing, right? That’s a recent phenomenon and you have a number of vendors playing in that space. The ability to do that is powerful and you can customize those indexes, those direct indexes to reflect ESG criteria as well. Rebalancing software is a great weapon here.
Craig: The direct indexing has taken off. The number of vendors – 20 years ago or 15 years ago, it was only one or two. There was very few. Now it seems to be 20 or so firms that are supporting direct indexing from custodians to TAMPs and other vendors. But I think the rise of fractional shares really facilitated that, didn’t it?
Will: Well that’s right. Zero commissions and fractional shares allows you to build an index portfolio, ESG centric or not, for a fraction of the cost. You would have to have built that stock by stock yourself. And so that’s all part of the democratization of investing a trend that extends from such of the Robinhoods of the world to more sophisticated providers, including family offices that are really eager to offer an entry point say for younger investors or otherwise reduced the minimum needed for entry. So, just like rebalancing software and UMA has become democratized, fractional shares have allowed the construction of portfolios to a range of criteria that simply would have required millions of dollars to construct back in the day. And you had Natixis and Appirio, and firms like that doing it, Parametric as well. Now, as you say, you’ve got practically dozens of firms with these capabilities.
Craig: Sure. Orion announced fractional shares. One of the bigger RIA broker dealer technology platforms. I know a lot of other firms are looking into it.
Will: Even in alternative and illiquid. Like you can buy a share of a 1928 Rolls Royce, right. If it’s securitized somehow. So, yeah, you no longer need to have $3,000 to get equity in Amazon, for example.
Craig: Oh, sure. That’s the old days, right? Well even less, now you can buy odd lots. You remember when you couldn’t buy odd lots or it would cost a lot more to buy that, you had to buy in round lots of a hundred. Now people can still buy one share, but the democratization, as I see it is when the fractional shares came out, that you could buy a hundred dollars worth of the S&P not just buying a fund, but buying an actual group of stocks and owning shares of that at that level. But one of the biggest parts of that is tax optimization and on Wealthfront was one that was one of the first robos to offer that where they believe they can generate tax alpha for even the smallest clients in a taxable account.
Will: That’s right. I remember when they launched their direct indexing proposition and you’ve seen others follow up. So, the ability to build around concentrated positions to generate tax alpha, to incorporate social criteria or environmental social governance criteria all present huge upside.
ESG Data Requirements
Craig: I wanted to move on to another part of the report and, it’s the data requirements and what we call the figure five ESG marketplace and data flow. And I’ll put this on the screen and I’ll put it on Twitter so people can see this diagram, but it’s a diagram that shows left to right the data flow in ESG. Where you have data generators on the left and a bunch of logos of different companies. And then into the trading risk management vendors and the alternative data providers into analytics into the buy side. Can you explain how this diagram works?
Will: Yeah, sure. Well there have been a number of articles in the general media on the rise of the exchange and they were once clubby, sort of quiet backwater organizations. Now they’re global financial institutions that are generating data. They’re distributing that data to the asset managers or wealth managers on the buyer side, and they’re also analyzing the data producing analytics. And you have in that category of data generators, not just the exchanges who are really the vertically integrated providers of data, generate the data and distribute it downstream. You also have firms like Refinitiv, you have firms like Morningstar, Bloomberg, that produce, analyze and distribute data. What has happened in the market, however, is that there’s been the emergence of all these really cool next generation analytics firms.
You know, you’ve got Elemental Analytics, you’ve got TruValue Labs, Arabesque, firms like that that are solving a problem in the marketplace. They’re providing asset and wealth managers with derived data. In other words, not just the raw data, but analysis based on that data that the asset and wealth manager can consume in a quick and immediate fashion. And so there’s a titanic struggle going on, who owns the data, right? Data is an asset, who owns that data asset who distributes that data asset? And even what I would call data mastery or taxonomy, how is this data structured, via knowledge graphs, for example, which Refinitiv has done, which AWS has done with Neptune. This is a huge deal because if you’re able to classify or dictate how the data is structured, you have huge control and you can analyze it in new ways and distribute it to the end consumer as a one stop shop. So we’re seeing a lot of interest from the cloud providers, Microsoft, AWS, Google, and others in basically finally getting to that point where they can monetize data as an asset, ESG data as an asset, by generating it, slicing and dicing it, and distributing it to the buy side. So I call this the data wars Craig, and right now the exchanges, enjoy a privileged position in that they control the data flow, but there are a lot of new entrants very hungry for part of that game.
Craig: One thing you mentioned was knowledge graphs. I have a degree in computer science, so I think of it in terms of the computer science knowledge graph of a data model, but I think you’re referring to something different. What do you mean when you say knowledge graph?
Will: Sure, sure. I mean, I would describe it simply as something akin to LinkedIn where every piece of data is linked to another piece of data, and so there’s coherence in the larger data set. Whereas you look at a traditional database or data storage structure, you have all these different data points that are unrelated. In a knowledge graph you have a structure of the data where every piece of data is connected to another piece of data, which is connected to another piece of data, just like LinkedIn, right, a network effect. And what that means is you cannot just throw in more data into the architecture, into the data storage. It actually needs to be connected or linked to another piece. And that gives the data real structure and coherence and power, in terms of the logic and how that data can be used. So it’s a tremendously powerful tool for analytics. It’s anyone who has used LinkedIn or Facebook, is quite aware.
Craig: Your point about data is well taken. We’ve seen data being an important part of wealth management business and wealth management technology for quite some time. Will this become a problem with these firms if these firms own the data, will that drive up costs? You’re saying “data war”, will there be firms saying, Well, you don’t have this data. We’re not going to give you access to it because it belongs to a proprietary universe, or is this something that’s all going to level out where the difference between a Refinitiv or an MSCI or SB Global, won’t be that big of a deal?
Will: That’s a great question, Craig. And actually, I think we’re at the beginning of the data wars rather than the conclusion. First of all, there’s the emergence of all new types of data, whether it’s satellites pulling data from the proverbial Walmart parking lot, or data from the internet of things, how hard you put your foot on the brake, for example, used for insurance assessments. There’s also a huge disparity among the ratings and other forms of evaluation delivered by these data providers. So I call that compareability. So Refinitiv’s ratings are not necessarily the same as Sustainalytics or those of ISS. And so as a consumer, you are faced with a conundrum, not only do you have different ratings or grades assigned to the investments you’re looking at, but you’re not necessarily even sure how these ratings were derived, or the methodology may be confusing, or you may have trouble actually using them in a practical or actionable way. That’s why many firms on the buy side, wealth and asset managers, are looking to raw data, data straight from the satellite or data straight from reports issued by the company or whatever the case may be. The problem is, how do you consume that data? So there’s this entire level of analytics that represents the growth area of this business. I think it will be awfully hard in short Craig to corner the market on data.
Craig: Indeed there’s always more data. I guess the question is, is it compatible and do people understand that? So when they see a rating that this company is good on ESG, whatever the number is, how Refinitiv defines it, or, I mean, we’ve talked to a couple other firms, Act Analytics, MSCI and the other different firms that are creating these datasets. There’s I think a misunderstanding at the other end, whether it’s investors or CIOs or people who are consuming it to know that when Refinitiv says, these guys are good, or when you’re doing a screen and here’s all the leverage you can pull to get firms that you think are good, you might get a completely different set if you go to MSCI or you go to S&P Global, right? Is what you’re saying, you can get a completely different screen of firms using the same criteria based on the underlying data?
Will: Well, that’s right. And then I would even take that further and say what percentage of that data is actually being provided by the company that’s being profiled by ExxonMobil to use that example again, or BP or whomever, what it is basically from the corporate report and is that relevant or is that going to be what what’s sometimes called greenwashing, right? Efforts to virtue signal? So there’s real questions about yeah, what goes in the soup, and whether your soup is comparable to someone else’s and that’s hard. And then that’s actually why firms are using things like controversy ratings, like how often is your company in the news and in what sense, because a lot of the ratings, the traditional ratings are actually fairly static, right? They rely on information that’s months old. And so how do you get a real time update in a way that helps you manage your portfolio? That’s a million dollar question, right?
Craig: Or billion dollar question depending, right.
Will: Or trillion as we say in the report. That’s right.
Roles, Workflow, and Integration of ESG
Craig: Before we’re done, we’re running out of time, I really wanted to touch on the implementation part of your report, which I find the most interesting. That’s the part that my company, Ezra Group, gets involved in a lot, which is how these tools and technologies and data get run by enterprises. Can you talk a little bit about the roles and the workflow of ESG as you have it defined and implementation in your report?
Will: Absolutely. I divide portfolio management from an ESG perspective into three broad categories. There’s customization, we talked about that before, the ability to create bespoke portfolios. That’s really not economics for most firms, or it hasn’t been until the onset of fractional shares. But you have family offices, you have sovereign wealth funds, these types of firms, creating portfolios from scratch that reflect their unique criteria. More common is going to be an SMA or managed account whereby you’re buying the intellectual capital of the third party asset manager and you’re managing this intellectual capital or models via some sort of coordinating technology, rebalancing, other. Basically you’re accessing the best in breed funds and security selection processes out there on the market. Lastly, and perhaps most interestingly is direct indexing and ESG context that would be modified direct indexing, recreating an index ESG, or report SPX S&P 500, but then customizing the individual holdings to the criteria of the investor or to an ESG based lens. And as we’ve talked about, that’s been made a lot easier by the arrival of fractional shares and zero commissions. If you’re no longer worried about incurring costs and you can fine tune your investment decisions to capture say, a tenth of a share of an Amazon or whomever, you can really deliver that kind of customization and with modern technology deliver it at scale. That’s a very powerful proposition, Craig.
Craig: Indeed, and that’s the one thing a lot of our enterprise clients want. They want to be able to deliver any solution at scale. That’s the whole point. If you’ve got a great solution, but it doesn’t scale well, then you’re not going to be profitable. And the other part of your implementation was specifically about managed accounts. And that’s something we deal with a lot, fee based advisory platforms and managed accounts. The portfolio structures for ESG, I thought that was interesting and how that’s different scalability, customizability between the different portfolios. Can you talk about that a little bit?
Will: Sure. Tell me where you’d like me to focus because there’s a lot there.
Craig: Well, just talk about the, the index replication, maybe in the models.
Will: Yeah. essentially if you’re able to access, models of multiple managers, you can draw in all different types of products you can bring in funds. You can bring in ETFs, individual securities, fixed income, and you’re able to slice and dice, at a pretty fine level, using fractional shares. You can really build out and diverse and ESG centered portfolio in a way, and using automated rebalancing, have it updated on a very frequent basis. Of course that’ll require some operational agility, right? If you’re using actively managed models, you’re going to need to rebalance often, but lower transaction costs, and the ability to take positions on a fractional basis really enabled that agility. And for those firms that invest in technology or that develop technology for wealth managers they’re quite aware that that nimbleness and the ability to manage exceptions and build around existing positions and do it at scale has truly become the holy grail. So breaking the trade off between customization and scale is today’s reality. And I’m excited to see where we go from here.
Craig: I’m really excited. We’re out of time. I mean, where are we go from here? There’s so much there, the world is kind of our oyster on this. And we’re really at the very beginning, as you said earlier, rather than even even the middle of the whole ESG trend. I’m really interested in this report, there’s a lot to dig into. I’m going to share a couple of the slides, in the video for people who are going to watch it on YouTube, and we’ll put it on to Twitter, a couple of pieces of it, for people who are going to listen to the podcast. And Will, thanks. Always a pleasure to talk to you. Very informative. I look forward to seeing more stuff out of you guys at Celent.
Will: Thank you, Craig.