Will commercial banks help rehabilitate European defence? Belfius’ 180-degree turnaround might suggest so. After years of strict exclusion, Belgium’s state-owned bank relaxed its credit policy for the defence sector in January. It is once again allowing Belgian companies to finance military goods, with the exception of controversial weapons. This change will initially affect discretionary management portfolios and investment advice. It will then be extended to certain funds.
Discussions are taking place within the European Banking Federation to clarify the position of the European banking sector on this issue. “What we can already say is that the EU’s sustainable finance framework is compatible with defence investment,” says the Luxembourg Bankers’ Association (ABBL).
There are no restrictions on financing any particular sector, according to the association. “Investment in defence, as in any other area, must be assessed on a case-by-case basis. Only controversial weapons are subject to specific legal regulations. The decision therefore rests with the banks, based on their CSR (corporate social responsibility) strategy and risk management, and with customers, who freely choose to include or exclude this sector from their investments.”
Major private equity players have been investing in this type of strategy for a long time.
This suggests opportunities for the financial centre. “As European defence becomes a strategic issue, but also a potential industrial subject, cross-border financial flows play an essential role in this type of project. Thus, the Luxembourg financial centre as a hub enabling financial flows to be mobilised for projects that are important for the future of our continent can play an important role in this context,” emphasises the ABBL.
Also contacted, the Association of the Luxembourg Fund Industry (Alfi) declined to comment, deeming it “a little premature” to take a position. Alan Picone, partner and asset management market leader at KPMG Luxembourg, notes the market’s growing interest. “There is strong momentum, on both the supply and demand sides, for thematic vehicles or defence-related funds,” he says.
This movement is based on an existing foundation. “Major private equity players, such as Carlyle or Advent, have been investing in this type of strategy for a long time. In particular, they meet the diversification needs of institutional portfolios.” But the trend is now extending beyond just professionals. “Recent efforts to make certain products accessible to the public--so-called retailisation--should soon inspire similar strategies for individual investors.”
Threat to the social pillar of ESG
The integration of defence investments into a sustainable approach nevertheless raises questions in the financial world. Picone believes that this evolution is both inevitable and already underway. “Sustainability regulations are constantly evolving. It is neither fixed nor definitive. Geopolitics is now at the heart of this transformation.”
The expert is thus observing reflections on integrating the into an ESG rationale. “Many of the industries involved--particularly in technology or cyber security--are not incompatible with a sustainable approach. Current regulations already allow for a case-by-case analysis, without a systematic ban,” he says, in tune with the ABBL.
Beyond the individual assessment of projects, it is perhaps the very definition of ESG criteria that deserves to be re-examined. “Some believe that without action in the face of current threats, it is the social pillar--the S--that could be compromised. In this context, defence investments act as levers for social resilience. They are therefore in line with ESG objectives.”
I see little enthusiasm for including armaments in responsible portfolios.
For Picone, integrating these new strategies into investment chains is fairly straightforward: all you have to do is launch new products or adapt approaches that are already in place. The real challenge lies elsewhere, in the strategic positioning of organisations. “Do they want to be drivers, waiters or retreaters? These choices, often dictated by reputational considerations, are at the heart of current thinking.”
Etienne de Callataÿ has chosen his camp: retreat. The co-founder of Orcadia Asset Management, a Luxembourg asset management company focused on responsible investment, admits that he has been approached by a few clients recently. “They asked us questions about the exclusion of weapons from our portfolios. But this remains very marginal, below 1% of our clients,” he points out.
The economist insists: there is demand and demand. “Today, it’s mainly from companies in the defence sector looking for credit to expand their production capacity. And the answer lies with banks like Belfius. In asset management, of course, some clients see an ‘ethical’ duty to finance the defence effort, others identify an opportunity for yield... But on the whole, I see little enthusiasm for including armaments in responsible portfolios, among both individual and institutional clients.”
Alignment to MSCI index
The majority of managers rely on the major ESG index providers such as MSCI, which continue to exclude the arms sector from their methodologies. “As long as these benchmarks do not change their criteria, we will maintain this exclusion. This does not prevent anyone, individually, from adding to their investments. But as far as I’m concerned, I remain in favour of a demanding definition of responsible investment, and therefore of excluding arms.”
De Callataÿ deplores a certain instrumentalisation of the debate. “In certain economic and political circles, responsible investment is accused of having weakened Europe’s position vis-à-vis Russia. As if not having invested massively in arms factories were responsible for the invasion of Ukraine or for our strategic vulnerability. This is an absurd accusation. Even if you and I had invested in this sector, it would have done nothing to deter Russian aggression or significantly change Ukraine’s capacity to resist. We must stop making the ESG a scapegoat.”
What role does the European Investment Bank intend to play in this discussion? Find out from vice-president Robert de Groot in a second instalment.
This article was originally published in .