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A growing number of market, societal, and technological forces are driving the convergence of two distinct investment strategies: hedge fund activism and responsible investing. Especially important is the growing support for these strategies by institutional investors and large asset managers. Hedge fund activism, a form of active ownership, refers to the practice of having a dialogue with companies on environmental, social, and governance (ESG) issues and exercising both ownership rights and voice to promote change, which can be expressed through voting activities, dialogue with management, shareholder engagement, and shareholder resolutions.

Hedge fund ESG activism taps into a growing investor sentiment for sustainability and the proven hedge fund practice of focusing on governance at the board level. "Hedge fund activists are likely to play a particularly important role for large asset managers and institutional investors that invest broadly across companies and thus may not be positioned to engage, actively monitor, or have their voices heard at every company," explains Michele Giuditta, director at Cerulli. "Consequently, in the case of some corporate issues such as sustainability, the relationship between hedge fund activists and asset managers could become highly complementary."

Hedge fund activists are a small part of the overall $3.2 trillion hedge fund industry. However, they are achieving greater legitimacy and clout given their track record of driving shareholder value through changes at the board level. It is estimated that within two decades, the three-largest index investors could vote as much as 40% of the shares in S&P 500 companies. As these shares become increasingly concentrated, hedge fund activists could help to engage, monitor, and voice managers' concerns across the many companies they own. Cerulli research also shows that nearly half (46%) of asset managers are leveraging the power of stock ownership in publicly traded companies to promote change through shareholder engagement/activism.

Presently, hedge fund ESG activism is a niche strategy practiced by existing name-brand hedge fund activists and a few new entrants. "While capital and shareholder support are likely to gravitate to these existing players, the need for new activists to create a track record of success and a credible activist playbook may act as meaningful barriers to entry," says Giuditta. "Existing hedge fund ESG activists will likely gain larger pools of capital, and additional hedge funds and responsible investors will likely follow their path."

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