ETFs are the latest tool in the activist investor's armoury, Yasmin Dahya Bilger tells Thomas Cox
After you've taken on ExxonMobil over its climate governance, and won, how do you follow that?
For investment firm Engine No.1, which was set up to drive "positive impact through active ownership", its next move has proved to be launching exchange-traded funds (ETFs).
This was not the most predictable strategy it could have chosen. After all, ETFs are typically vehicles that allow investors to track an index at minimal cost – hardly the weapon of choice of an asset manager that wants to instigate change and drive a sustainability agenda.
Veteran hedge fund manager Chris James launched Engine No.1 in 2020 with $250 million, with the aim of focusing on investing in companies that make profit and have a positive impact on jobs, workers, communities and the environment.
Engine No.1 rose to prominence when it dealt ExxonMobil a bloody nose over its climate governance. In May last year three of its nominees won seats on the oil supermajor's board when its shareholder resolutions won majority investor support.
Since that victory, Engine No.1 has launched two ETFs.
The first, the Transform 500 ETF (ticker: VOTE), launched in June 2021 to try to drive ESG impact through voting. It was a typical ETF in the sense that it tracks the Morningstar US Large Cap Select TR USD, a market cap-weighted index that tracks the 500 largest companies in the US.
But the most recent – an ETF called Transform Climate ETF (ticker: NETZ) – is unusual, in that it doesn't track an index at all. Launched this month, the actively managed fund aims to drive decarbonisation by investing in carbon-intensive companies like General Motors that will play a part in the transition to a low-carbon economy. Its biggest holding is over $3 million of shares in US chemicals corporation Albermarle as of 16 February.
"There is a really unique innovation we're seeing in the market right now, which is this rise of active equity ETFs, generally speaking in the US," Yasmin Dahya Bilger, Engine No.1's head of ETFs, tells Environmental Finance.
"There is a really unique innovation we're seeing in the market right now, which is this rise of active equity ETFs."
"Historically, ETFs were synonymous with passive investing, market capitalisation investing and index tracking products," Bilger says. "In the last several years, there's been a really interesting break in that linkage between ETFs and market-cap investing."
When asked why the San Francisco-based company chose an active ETF over a mutual structure for its actively managed fund, Bilger explains that there has been a lot of product innovation within ETFs in thematic investing as well as active equity investing.
"The ETF vehicle is really just a wrapper. It's a technology to deliver an investment strategy," she says. It also has some "quite attractive" tax benefits. "There has been a lot more interesting active equity ETFs in the market, and that's exactly what we're doing here."
ETFs also have a role to play in the democratisation of finance.
"The beauty of this ETF is it is available to everybody from a self-directed investor all the way to the largest institutions – so the breadth of investors that we can reach is very large."
Before starting her role at Engine No. 1, Bilger spent eight years at JP Morgan – two of which were as vice president of ETF product strategy and development in New York.
She would not put a figure on the total goal for the Transform Climate fund but says it sees a "long runway" ahead of it.
"The three largest ETFs in the US are almost a trillion dollars in assets alone. There's a lot of scale and amplification of our voice that we can have in market with our ETF."
The latest fund's size had grown to $49 million in assets as of 16 February.
The previous fund, Transform 500, had grown to $295 million in assets as of 16 February.
Both funds plan to use active voting to encourage change but, while Transform 500 aims to foster general ESG impact through investing in the largest 500 US companies, Transform Climate is focused on transitioning companies towards being more sustainable with holdings limited to a maximum of 50. It has a more active strategy with a more concentrated approach.
The Transform 500 strategy targets a far greater number of companies – which may mean it has a broader impact. "Our [Transform 500] strategy makes us essentially a permanent holder in the largest 500 companies, which is very different to our active products. We can drive scale."
Both funds have an approach to active ownership that Bilger says is "quite unique".
The firm has a three-pillar approach for its Transform Climate fund, she says:
"There's a lot of amplification of our voice that we can have in market with our ETF."
"The first is we've got a voting policy and strategy that supports accountability and transparency on key environmental and social issues, and tends to have a high degree of support for shareholder proposals on environmental and social issues.
"The second pillar is deep engagement with the companies that we invest in, and that can really be a wide variety of things. That can be helping to hold them accountable to some of the goals they've set. It could also be helping to accelerate them on those goals. But leaning in and engaging with the companies in our portfolio is a key tenet of how we operate as a firm.
"And then, lastly, the other pillar for us as active owners is the investors we bring along with us, as well as the way we tap into our ecosystem, in order to amplify our voice – so that can mean academic partners or subject matter experts in a particular space."
She adds: "If you zoom out and look at most large asset managers, their approach to engagement has really been focused more from an exercise of quantity, or how they can speak to as many companies in their portfolio on as many issues as possible. We take a very different point of view. We are very focused and like to go very deep."
Engine No.1 would divest as a last resort from investee companies in its Transform Climate ETF, Bilger says, despite a subheading on the fund's web page being: "Don't divest. Engage."
"We're really focused on long-term investments here, very much making sure that companies are staying accountable to those longer-term goals."
Engine No.1 is eagerly anticipating its spring proxy season, when it will cast most of its proxy votes, Bilger says. "This will be a really big opportunity to demonstrate how we approach voting on environmental and social shareholder proposals relative to other asset managers out there."
After the hubbub around climate change in 2021 there's a "tailwind" of support for climate-related shareholder proposals, Bilger says. "There's a lot of energy and momentum."
And the capital attracted to its ETFs will give extra volume to Engine No.1's voice.