UBS Advisor Adam Epstein on Unexpected ESG Investments

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Hello and welcome to The Way Forward. I'm Scott Winger, editorial director of Barron's Advisor. Today we welcome Adam Epstein, a private wealth advisor at UBS who manages $3 billion for 100 families and a dozen institutions with a team of 12. Adam and I are going to discuss ESG, but this conversation is going to head in directions that our listeners are not expecting. Adam, thank you very much for joining us today.

Thank you. Nice to be with you.

Glad to have you. Adam, you've said to me that you regard yourself as a generalist, but someone who's found differentiated and compelling investment ideas that may sound like ESG investing, but amount to thinking beyond the traditional product suite. Let's start by asking what you mean by that and what that means for your clients.

Sure. Yeah, you know, our, our role as private wealth advisors encompasses a lot of different areas of specialties, but, uh, it also requires us to be able to be conversant in a lot of different areas, whether it be tax, wealth transfer planning, multi-generational planning, philanthropic planning, uh, and then from the investment side, be able to be conversant in areas of alternatives hedge funds, private equity, stocks, bonds, you name it. And now a new area of investing has emerged in the areas of ESG investing and impact investing. And we have fabulous resources to be able to tap to help access this suite of investments and this subcategory of investments. But it's our job as advisors to, to really understand, listen, and then find, find new and creative ways to continue to link investment strategies to families' values. And what we found in our business and our practice is talking to clients about their values as it relates to their investments has been a really big differentiator and made a real difference in our clients' portfolios and in our practice.

So from there, Let's probe a little more deeply into what ESG is. Alternative energy investments, companies that protect the environment or in those kinds of businesses are mainly in vogue in terms of ESG, but you've made real estate a significant component of these investments in your practice. Tell us about how that works.

Yeah, so, you know, the world of ESG has really been I guess somewhat controversial in that it's hard to measure the impact, but ESG is really in the eye of the beholder. And every client has a different view of what they deem to be relevant to them, things that matter to them. And, you know, the world of ESG investing has evolved a great deal over time. You know, it started out as socially responsible investing, you know, in the '80s and '90s, and then ESG came about in the public markets, and now we're even starting to see real impact investing opportunities both in the public and private markets. And interestingly, we're seeing a great deal of opportunity for impact investing in the private markets. And what I mean by that is that, you know, when we think about public stocks and bonds and you think about ESG, it's really more about excluding different things like, well, I don't want to invest in companies that pollute the environment, or I don't want to invest in companies that don't have enough diversity on their boards or don't care about their people. Yet you can have companies that have a lot of different characteristics that might fit one area of ESG, maybe the E and the S, but maybe not the G, or vice versa. And it's really based on exclusion in the public space. What companies don't do. But what we're finding now is on the private side, we're able to invest in specific projects, um, that, that are able to address specific issues that our clients are actually quite passionate about. And one area that we found, uh, to be able to accomplish that is in the real estate space.

Tell us about that. How can advisors and their clients find those types of investments? How can they do the due diligence to make sure that they're legitimate and that both the good that they hope to accomplish and the investment returns will likely be there.

This is a challenge to try to source these investments. And one thing that we've come across in the real estate space is the opportunity to invest in homeless shelters. Now, in the real estate space over the last couple years, a lot of investment has been made into these areas called opportunity zones. Which we've talked about. Opportunity Zones is a way to invest in economically strategic areas of communities, largely in the real estate space, and there are certain tax benefits, but there's controversy around Opportunity Zones as well. Should that area really be an Opportunity Zone? What are you actually doing to actually better the community in an Opportunity Zone, or is it just a straight real estate investment? One of the really interesting projects that I am just very, been very, very excited about is a homeless shelter that we were able to invest in. And this project came about through a friend of mine who's a real estate developer in New York City. He came to me one day and said, "Hey Adam, I've got this really interesting real estate project in Brooklyn. It's a condo development, but we recently switched course and we wanted to now convert it to a homeless shelter." and it's going to be great for the community. There's huge demand for it, and New York City has a shortage of homeless shelters. And like I do with any sort of interesting real estate deal that comes across my desk for personal investment, I sent it to our, uh, our head of our real estate investment bank and asked for a view, asked for an opinion. And sure enough, it, uh, I got a call back saying, hey, this is really interesting, Adam. We need to get these guys in here. We need to talk to them about this deal.. And, uh, and it turned out that not only did the real estate project have outsized yield, right, because New York City was on the hook to pay the rent, um, but vacancy didn't matter again because New York City was on the hook to pay the rent. But it actually had real social benefit. And this was an interesting project because it wasn't in an opportunity zone. It wasn't built to be an impact project.. But actually, after we looked at it, we thought, my goodness, this actually has tremendous community and social benefits that our clients would be interested in. And we actually turned it into a direct investment project where our clients were actually able to invest directly into this real estate project. And it's a beautiful thing because after about 8.5 years, from an investment perspective, you own the real estate. Either the real estate is sold, it's converted to market rate rentals, or the homeless shelter contract is renewed with the city. Turned out to be a project that gave outsized return in excess of a traditional real estate project because we're able to even access capital at a very, very attractive rate.

How many of your clients are invested in this project or similar ones?

So these projects, are going to be more plentiful going forward. They are somewhat few and far between now as soon as you move beyond the opportunity zones, but we probably were able to have about 20 to 25 or so of our families invest directly into these projects.

Clients of other advisors at UBS as well?

Absolutely. Yeah, this was an oversubscribed project. I think we filled up the capacity in, in just a few weeks.

Interesting. I imagine that some listeners might be skeptical thinking that, well, he's identified this interesting project and the risks are somewhat mitigated. The yield is attractive, but is it ultimately going to be a boutique type opportunity? Is it scalable? How do you address those ideas?

Yeah, unfortunately these projects really aren't scalable. It's not like you're investing in a mutual fund or in the public markets. And I think that's one of the challenges in the private space, is that these deals are not that scalable and they really have to be sourced appropriately.

I imagine that as you find these and put clients in them, that it could be priming the pump that other investors or developers in the real estate community might get to know your interest in this, your client's interest in it, and that, do you hope that it becomes self-sustaining over time?

Absolutely. And in fact, you know, we, we, we've been sharing some of the ideas and the case studies with other real estate investors who have expressed interest in potentially co-investing with this one real estate developer. And, and now this real estate developer is interested in taking this project across the country. You know, apparently there's a lot of red tape. Surprise, surprise. There's a lot of red tape to work through New York City, especially the Department of Homelessness and But, but they've been successful in doing this. And now we're looking to port this model out. We're finding a lot of clients are really passionate about the idea of addressing the homelessness issue. And a lot of clients are concerned about inflation. And as we know, real estate is one of the great assets to help protect against inflation.

Right. And I suppose if, if helping homeless citizens and helping to serve their myriad needs when homelessness occurs, you know, there aren't a lot of public sector opportunities. There aren't a lot of companies that have an approach that helps them in ways that investors might feel positively about. So this private sector approach is a way, I think, and no doubt you would want to elaborate on that, as a way of addressing solving or trying to solve for some of those needs.

Yeah, absolutely. You know what, and I think what's going to be interesting is to see the projects that emerge in these types of, of shelters, the, the programs for the, um, for the tenants, for the residents. You know, we're working on now a project that, that sort of dovetailed off of this into a project in Salt Lake City. And interestingly, uh, you know, that happens to be in an opportunity zone. But in that instance, they are— they not only are providing workforce housing, low-income housing into this real estate project in Utah, but they're also now creating different programs for refugees. And so this is a housing complex built for refugees, and then they're also having different re-entering the workforce type of training programs, and it just happens to be largely around the culinary arena or specialty. And then there's going to be a series of food trucks and all these other different things. But I think that it's all about the programs that go along with the real estate that's going to be really exciting. I think what our clients are really loving about this is sort of the opportunity to kind of marry together this concept of, you know, it's not a zero-sum game. It's philanthropy, but it's not philanthropy, it's investment. But there can in fact be social good that comes of it. Of these different investments.

Certainly, I'm sure that that message does resonate. We hear that so often from our readers and from the advisors who, uh, who are working with our readers. You know, last year saw a record $50 billion plus in flows into sustainable mutual funds and ETFs, and that amounted to like nearly a quarter of all the money that went into funds in 2020, according to Morningstar. What percentage of client assets in your practice are in traditional ESG products versus some of the newer ones you've mentioned?

Yeah, we've largely been focused on the private markets for our impact, and we've been treading lightly into the ESG funds. So I would say below 20%, but north of 15%, somewhere in that range of, of our clients' assets would be in ESG. Now we are continuing to build that out over time. You know, UBS has made a very, very clear determination early on in 2020 that our default would be ESG. We've done a tremendous amount of work and research on the project. We on our team have been very deliberate about where to incorporate it because we want to make sure that our clients don't sacrifice returns. By investing in ESG. And our clients have been a little bit slow to, to on the uptake as well, but we've seen the most interest on the private side.

You know, there are many prominent advisors who we've spoken to who have told me that they regard it as their principal responsibility to maximize investments. No surprise there. If clients, hopefully they say, want to direct some of those gains to helping worthy causes, then great, but investment gains first. The way you manage your practice, it sounds like you see direct— directing investment dollars to benefit ESG issues as a core investment objective.

Yeah, no, absolutely. And I think what this comes down to is, you know, there is— there's a— there's a— there's a responsibility that we have as investment advisors to maximize returns, but there's no— there's no conclusive evidence, if you go back far enough, that, that you sacrifice returns by being invested in ESG-related investment services. So our job is to make sure that first and foremost we maximize returns, but it's also our job to listen to our clients and recognize that our job as advisors is to add value by understanding what people care about. And then they absolutely should have that opportunity and the ability to link their investment portfolio to their personal value systems. And I think ESG is the future of that. And I think we as an industry are on the early stages of it. I think we're going to see a lot more customization coming down the pike, not just on the private space, but actually in the public markets. And we're working on some really innovative ideas around that as well.

I think you're— it sounds like there'd be a lot of agreement that you're right, that it is growth, but it can be slow growth in persuading both advisors and clients that it's the way to go, that you can make a difference and make good returns in the same move. But there's a lot of skepticism. And in researching for today's podcast, I was reading one of our stories in the most recent issue of Barron's, and there was a reader comment posted online. And I just want to read this comment to you and get your reaction to it. It says that ESG funds are another way to just charge high fees for funds. That deliver mediocre performance, but making the investor feel good about paying the fees because they are doing the right thing for climate justice. What do you say to clients or prospects who hold that view?

Certainly we've heard that before as well. And our industry is not immune and nor not entirely undeserving of any skepticism around repackaging product and investment services and then charging fees on it. That's one of the reasons why we've seen such a prevalence of index funds and passive investing taking over active management. I think that ESG is the next wave of active management. And there's a great deal of very valid research out there that says companies who do care about the environment or do care about having equality on their board or more diversity on the board will do better over time because they're more acutely aware of important things that will ultimately drive earnings. So I think that the jury's still out on that. I think it's too early to put a stake in the ground and say this is, this is the way it is and it's true. But, but I do believe though that the challenge that our industry is going to have on ESG is that, you know, there's a lack of consistency in measurement as to what actually is, is qualifying as good for the environment? And how do you measure those results? And there's this concept of greenwashing, right, which companies can do just enough to check the box and say they do this or that. And again, this is again on the exclusionary side. I think the future is not going to be necessarily in packaged products like funds. I think the future of public market ESG investment is actually going to be when an advisor can sit down and listen to their clients and understand which categories within ESG are actually really important to them, and then figuring out how to build a portfolio of stocks or bonds in some instances, although it's a tougher asset class, from the inside out, specifically to address an area that an individual or family is passionate about. And what I mean by that is, you know, you look at a company— not to name any names of companies— but you could see a specific company might be really good at, again, as I said before, they don't pollute the environment, but They have no diversity on their board. So is that— should that just be in an ESG fund? That might be, but it might not be the right ESG portfolio for an individual. And I think our job as the advisor is to understand how we can custom build from the inside out a portfolio that represents somebody's own values, not using a packaged product. It's just the next layer of customization to come.

Got it. You mentioned a moment ago fixed income, which doesn't come up nearly as often when talking about ESG topics as equities. Why do you think that is? And are there fixed income plays yet for advisors who want to direct dollars in that direction?

Yeah, the fixed income space has been a bit of a challenge. So as we've seen it on our team, as we look at how to incorporate it, and again, much like the public markets, it becomes more exclusionary in the, you know, for public debt, you know, you're saying, I don't want to invest in a bond issued by a specific company because they drill. Right. So I think in the public markets it's tough, and there's not a lot of great product out there. I think one of the reasons is there's, you know, fixed income is just so darn efficient right now with credit spreads and interest rates where they are. But we are seeing interesting opportunities for lending, you know, lending to areas in underprivileged communities for startup communities. And we'll see that again largely in the private space. So I think that that's similar to the shortfall on the public equity side, on the public debt side, there are some shortfalls in the offering. And I think we're going to see more on the private side on the debt component too. And then the other area that we've had a lot of interest for some very, very significant family offices, very prominent impact investors is in the areas of social impact bonds. And that's a very, very hot topic. I don't know if I should get into any detail on that, but that's a hot topic in the area of family offices that care a lot about impact.

Give us a quick overview on that, if you would.

Yeah, so basically a social impact bond is a contract with the public sector or some sort of governing authority whereby it pays for better outcomes in specific areas, and then it passes— if, if those outcomes are achieved, it passes on, uh, the, the, the benefit or the savings to investors. So it's not specifically a bond because the repayment and returns aren't necessarily contingent on, um, uh, on a, you know, on a specific income payout. But, you know, they, they do have to achieve a specific objective with a specific project. So if the objectives aren't met, then the investors don't get any return. And if the, if the merits of the project come through and it was successful, then the investors are paid. So it's in a way a pay-for-success type of investment. And those are really interesting, but again, the investment minimums are high and they require a certain level of sophistication. So we're really seeing that in the family office space that we've been active in.

Interesting. Thanks for the detail on that. You know, recently I was reading an excerpt from Bill Gates's new book, which is titled How to Avoid a Climate Disaster The solutions we have and the breakthroughs we need. And the book discussed in part some of the obvious sources of pollution and some less obvious but significant ones like growing food, which creates more pollution than many people realize. What investment opportunities do you see in this area?

Yeah. So look, I mean, this is, if I understand the question correctly, you know, it's, it's Where do we see opportunity to invest in companies that don't necessarily pollute, even though they might say that they're doing good by having some sort of plant-based food investment?

Well, yeah, a lot of people think, you know, the farm is a core part of America, that it's clean living, it's healthy eating, and that farming is, you know, a wonderful way to support environment and employment and good lifestyles. But at the same time, there are a lot of farms that create more pollution than many people realize. And yes, of course, you have to, you know, we can all just eat plants out of the ground, but we still have to get them out of the ground and plant them in order to eat them. What ways can investment-driven themes help create improvements in this area, akin to maybe what you were talking about earlier with real estate?

Yeah, you know, I just think that this is going to fall into the area of, you know, the byproduct of some really great ideas could be, you know, have some sort of negative, negative byproduct that has to be addressed. And I think that this is really where the education, the diligence of the, of the sponsor of different investments has to be acutely aware of this. I mean, when you talk about this, one, one idea that just comes up is similar to, you know, this idea that, you know, harvesting Bitcoins, uh, is, is using too much energy and therefore it's bad for the environment. And a lot of the same people who are buying Bitcoin and love cryptocurrency, uh, don't necessarily want to have a bad negative impact on the economy. And these things can have side effects.

Yeah, that concern about the environment, I'd say, is a leading topic when discussing Bitcoin. That, you know, it's interesting that it's a digital currency, but it requires a lot of a land-based energy in order to manufacture. Yeah, you know, the efforts in blockchain and the energy consumption. So it's hardly—

it's anything but carbon neutral.

Exactly.

I think that this is where, you know, the, the, the— when the dust settles here and, you know, there's more and more information, but people are going to really understand what they're actually invested in. And, um, I think there's a lot of misperceptions out there, one company to the next, that, uh, that investors are going to learn. I think that's really the job of the advisor. And I think that investment firms are just going to get better and better and better at it. I think where we differentiate as advisors is to be able to educate our clients on exactly these types of issues. And, you know, the conversation moves beyond just, hey, you know, active better than passive, passive better than active. You know, let me tell you about some tax planning strategies. It's really going to get to this level of customization as the future.

For sure. Hyper-personalization is one of the buzzwords, I think, of not just last year and this year, but of the past several years and the years to come. But also thinking more broadly and not relying on just the same old, same old thinking. It struck me that there's a frustration in many industries, probably this one as well, that too much decision-making, too much thinking reflects a certain locale, whether it's New York City or Silicon Valley or Washington. You just spent a year living in Utah. Tell us about how that helped frame or reframe your thinking on investing.

So around July of last year, July of 2020, my wife said to me, I think we, we should go on an adventure. New York City schools aren't going to get back to normal, so let's do something exciting as a family. And I said, well, what do you want to do? And she said, we're moving to Park City. I said, how are we going to do that? We have 3 kids under the age of 10. We have to Worry about schools and everything else. And it's July and she handed me a piece of paper and she showed me that she already applied all 3 of our kids to the same charter school in Park City, Utah, and got through the lottery. And so I had no objection at that point. But, uh, so, so we went off to Park City and then I did a little bit of research on it and I learned that the real estate market in the Salt Lake City, Park City, Utah area was just booming because people are avoiding higher tax states and coming there. And there's also a whole trend that's going on in Utah around technology. Ology. And so I was really excited to spend a year in Utah knowing that I wasn't going to miss much in New York and get involved in the community. And one of the areas I was really interested in was real estate, obviously, because I work with a lot of big real estate families on the East and West Coast and love it on a personal level too. And so I was able to connect with some of the big real estate families there, and that's how one of our projects in Salt Lake City came about. But impact investing is, you know, it opened my eyes to ESG and impact investing in a new way because it is the norm there because obviously there's a focus on the environment. There's a lot of Opportunity Zone investment as well, which is good. And I learned a lot, not just about the idea of investing in real estate in economically strategic areas, but also the projects that go along with it. And one of the things that we love to do is be able to connect our clients that have common interests to form synergies. And, and we've spent a lot of time working on the idea of what is the cost of homelessness and what sort of solutions can real estate developers do to help address that and what programs go along with that. So it was really just the focus on impact and the network that I was able to achieve in a short period of time and really people that, that were there that were really focused on addressing this exact issue that interestingly had a lot of parallels to the project we worked on in Brooklyn.

It's kind of amazing how for so many people, uh, the year of COVID turned into one of self-exploration and of growing ourselves in ways we never could have anticipated as the calendar turned from 1919 to 2020. Here we are halfway through almost 2021 and a lot of different experiences for so many of us. Obviously, so many were hardly ideal, but it's great when you can make the most of the change that's required. As a final question, I'd like to conclude with our Barron's tradition of asking our guests for one final actionable idea that our listeners can start using right away. Can you give us one great final takeaway?

You know, I think that as advisors, as private wealth advisors, we don't realize just how darn good our networks actually are. And, uh, some of the best, best investment opportunities for our clients can actually in some instances be sourced from other clients. And by connecting clients similarly to one another, uh, that have common interests can be exponentially powerful. You know, we're speaking at a, uh, at a really interesting, uh, impact conference later on this week that, that, um, one of the prolific impact investors in Salt Lake City has put together, the Winter Innovation Summit. We're actually having the, the, the developer from our New York project speak at this event, and it's just fascinating to see the synergies and to be able to really aggressively pursue that and think beyond the normal of what we— what we— where we actually add value. And we have to be honest with ourselves, where do we actually add value? And it's hard to say that We're really great investors. We're really great. I believe that our value is to be able to connect people, to listen well, and then to source ideas. And so often it's right within our own network. So I think that that is really my message is to think specifically about what's right in front of you and ways to go beyond just the traditional investment solution and be creative in the both public and private markets. And then leverage the firm for support to structure these types of things. It's fascinating and it's very differentiating, and it, and it makes our job more interesting too, because sometimes it can get a little monotonous. But, but this is the stuff that really gets me excited, and you can tell by the, the volume of, of words I've put into the answer.

No, I appreciate the enthusiasm, but also the way you, uh, encompassed all angles as a way to leverage it as broadly as you can for, for maximum benefits, not just for your clients but for society. So Adam, I want to thank you very much for your time and sharing your knowledge today.

Thank you for the opportunity. Great to be with you.

Thank you. And thanks to everyone for listening. Tune in next week for our Barron's Advisor Podcast, Actionable Intelligence with Steve Sandusky. We'll be back in 2 weeks with another edition of The Way Forward.

This podcast was brought to you by Wells Fargo Advisors. Looking for a firm your clients can't outgrow? Wells Fargo Advisors offers financial advisors full balance sheet solutions with wealth planning, investment products, banking, and lending that meet the needs of affluent to ultra-high net worth clients. Build your practice your way and on your schedule with independent and employee model options designed to meet your needs today and tomorrow. Learn more at joinwfadvisors.com.