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Commentary

ESG Investment Program

Third Quarter 2017

Key Takeaways
  • Expanding access to financial products and services contributes to reductions in poverty and hunger while supporting revenue growth for companies enabling financial inclusion.
  • The widespread use of mobile devices and digital payment technologies is bringing unserved, developing market consumers into the financial system and promoting sustainable economic growth.
  • Financial education programs and low-cost access to investment services are promoting financial inclusion and increased account growth in advanced economies.
Financial Inclusion a Key Path to Empowerment, Economic Growth

Today about two billion people transacts exclusively in cash and thus are excluded from many opportunities to improve their lives. A cash-only existence makes life more expensive, more dangerous and more difficult. In countries deemed fragile and conflict-affected by the World Bank, almost 80% of adults are outside the formal financial system. Women, rural poor, and other hard-to-reach populations are the most excluded populations in a global economy where more than 200 million micro, small- and medium-sized enterprises in emerging economies lack adequate financing. In developing countries, 59% of men reported having a financial account in 2014, while only 50% of women did.

Access to financial services, on the other hand, can help the unbanked begin their move out of poverty, provide business opportunities and enhance economic growth. Financial access makes it possible for families and businesses to better manage everyday expenses, save for the future and deal with unexpected emergencies. Organizations including the United Nations Department of Economic and Social Affairs have identified alleviating poverty and hunger, promoting economic growth and reducing income equality as cornerstones of sustainable development. Financial inclusion, which strives to offer individuals and businesses access to useful and affordable financial services and products, is a crucial effort that contributes to these sustainable objectives.

Transaction accounts, by enabling people to store money and to send and receive payments, can serve as a gateway to other financial services. Holders of a transaction account are more likely to use credit and insurance and to start or expand businesses. These participants are also more likely to invest in their education and health, manage risk, and be better prepared to deal with financial shocks. Spurred by growth in mobile phone usage and improved mobile technologies, financial account ownership has grown from approximately 51% of the global population in 2011 to 62% in 2014, according to the World Bank. Several African countries such as Ghana, Kenya and Nigeria have made significant progress in account growth (Exhibit 1).

Exhibit 1: The Percentage of Adults with Transaction Accounts is Growing

Adults with transaction accounts as measured by percentage of adult population in each country. Source: World Bank Universal Financial Access 2020.

Recent research indicates that growing account ownership can contribute to higher revenues and loan growth for the companies that engage in financial outreach and foster sustainable economic growth in target markets. Those serving emerging markets such as Banco Santander and Standard Chartered have the greatest revenue opportunity. Penetration of remote markets is best accomplished by partnering with mobile phone operators and financial technology partners as well as by using agent bankers who could be local retailers, postal workers or similar individuals already living or regularly visiting rural communities.  Agent banking is 99% less expensive than opening a branch and nine times cheaper than setting up an ATM, according to a Morgan Stanley study.

The G20 has concluded that digital technologies offer affordable ways for the financially excluded to make payments, get small business loans, send money, save for school, or buy insurance. The shift from cash and checks to electronic payments provides societal/economic benefits. In addition to increasing the number of people with access to financial services, electronic payments can reduce transaction costs (including the total cost of dealing with and moving cash), increase transparency and accountability and reduce the size of the grey economy.

Mobile Technologies Bridge Banking Gaps

Companies like Visa and Mastercard are leading efforts to expand financial inclusion through the leveraging of existing and next generation payment tools as well as education and advocacy programs. Both have pledged to reach 500 million excluded or underserved individuals worldwide. Visa has a number of initiatives to help bring the benefits of electronic payments and other financial products to the billions of people around the world that don't have access to them currently. To do this, the company has established partnerships with philanthropic and business organizations, governments, mobile network operators and other private companies to maximize the global reach of its payments network. It has also partnered with global institutions such as the World Bank and the Alliance for Financial Inclusion that advocate for financial inclusion. In the last two years, Visa's partnerships helped 162 million consumers get new payment accounts. Visa has developed new products and delivery channels for use in areas with limited infrastructure. It has provided education and training to drive small merchant acceptance of digital payments. It also provides technical knowledge and insight to governments to assist them in converting cash, wages and other payments to digital and adopting policies to help shift transactions to digital.

Among Visa's latest innovations are Visa Direct and mVisa. Visa Direct is a global platform that allows merchants, governments, and businesses to send payments to individuals through the Visa network instead of using cash, checks or wire transfers. Visa Direct expands access to payments in developing countries where transactions aren't linked to personal bank accounts. mVisa is a QR-based payment service - Mastercard offers a similar service - that enables people to use their mobile phones to make cashless purchases by transferring money from any Visa account to a merchant using the merchants' QR code. Merchants can accept the payment without needing to install card acceptance hardware. By leveraging the scale, security, and reliability of its network, Visa is bringing financial services to unserved areas in Egypt, Ghana, Indonesia, Kazakhstan, Nigeria, Pakistan, Vietnam, India, Kenya and Rwanda. The company has also created three regional innovation centers in Dubai, Singapore and Miami intended to develop new ways to pay across regions that have thus far been excluded from mainstream financial systems.

As the leading global payment networks, Visa and Mastercard offer access to secure, low-cost ways to make and receive digital payments. Some examples of Visa and Mastercard's financial inclusion efforts:

  • In India, Visa partnered with NetHope, a consortium of 50 nonprofits, to launch the Accelerator for Consumer Capacity in Electronic Payment Transactions (ACCEPT) to jumpstart the commercial delivery of digital financial services to small and micro merchants serving the country's emerging middle class.
  • In East Africa, Mastercard has launched a digital platform to enable smallholder farmers to receive payments for agricultural goods through their mobile phones. The program connects farmers with agents to better determine and receive fair pricing. Mastercard has also partnered with Unilever in Kenya to educate shopkeepers on digitizing payments and provide interest-free credit options to grow their businesses.
  • In China, Visa has formed multiple alliances to increase financial inclusion of 10 million underserved Chinese consumers by 2020. A newly created Financial Inclusion International Demonstration Zone in northeast China is intended to support research and product innovation while also delivering financial education and working to alleviate poverty.
Access Is Not Just an Emerging Markets Problem

Financial inclusion is also a challenge in developed economies. In the U.S. and Canada, low-income households are twice as likely as other populations to be underserved: 47% of U.S. adults, for example, are unable to cover a $400 emergency. Another 20% of U.S. adults, representing 45 million U.S. consumers, have no credit history or too little information to get a credit score. As a result, many have difficulty obtaining credit. Here Visa is working with nonprofits and community banks and credit unions to test a number of products including microloans, secured credit cards, and high-interest loan consolidations to find products that can help minority households benefit from financial services. Visa is offering alternatives to check cashing services that typically charge customers lacking bank accounts a 3 to 5% fee, according to the Consumer Financial Protection Bureau. As more payments are distributed via a Visa or Mastercard debit card, including government assistance, costly check cashing services are no longer necessary.

Gaps in infrastructure and policies, as well as a lack of relevant or affordable products and places for consumers to use them, hinder financial inclusion. Three out of five U.S. adults without an account cite affordability of services as a key reason. In addition, distance from and lack of trust in financial services providers also cause U.S. consumers to be unserved or underserved. Companies like Charles Schwab are directing their financial inclusion efforts toward these populations.

Schwab has brought a wider range of financial products to a mass audience and promotes a culture of stewardship with its clients. The company, which disrupted the traditional full-service brokerage model in 1975 by opening the first discount brokerage with reduced commissions, continues to make individual stock and mutual fund ownership affordable with low trading commissions and innovative online and retirement services to make investment and saving easier to understand. The company never wants price to be a barrier to entry for investors and has kept commissions low by sharing a portion of its earnings with customers. As interest rates went up this year, Schwab made more spread income that contributed to two commission cuts for customers. It also eliminates the potential for conflict that transaction-based advisory models create by paying its own retail financial advisors a salary to work with clients. 

Schwab has been able to democratize the capital markets for all investors, young and old. It is a leader in providing free financial education and outreach, seeking to enable more individuals to build wealth through participation in capital markets. Its MoneyWise website offers financial literacy programs for all ages, with a growing focus on providing college students with a personal finance foundation in which to launch their careers. Through the Charles Schwab Foundation's alliance with the Boys & Girls Clubs, it offers a Money Matters: Make It Count program to educate teens on personal finance topics. According to a third-party analysis of the program's first 10 years, graduates of the program have shown improvement in managing credit and debt, budgeting and saving (Exhibit 2). With the AARP Foundation, Schwab offers a similar program to help low-income seniors manage their finances, while its support of the Foundation for Financial Planning helps connect financial planners with people in need. Schwab also makes grants to career development programs for financial advisors and RIAs.

Exhibit 2: Early Education Leads to Better Financial Decisions

Source: Inference LLC analysis of Schwab's Money Matters: Make it Count Program, May 2013.

Similar to how our health care analysts actively engage companies on the critical needs for global access to medicines and affordable pricing, ClearBridge's financials analysts engage on access to capital for financial inclusion, community development and financial education. These are topics we regularly cover in engagements with Schwab. The company has always been transparent in explaining its motivations for cutting customer costs. Following commission reductions in February and March of this year, the company told our financials analyst that "cost should never be an impediment to client acquisition." JPMorgan Chase has committed $100 million to its Invested in Detroit program, $50 million of which is targeted to spurring business and real estate development by providing loans to local businesses that typically would not qualify for financing.  The bank has generated positive returns on its investments in Detroit and is reinvesting the proceeds in the community. These efforts stand in contrast to the predatory lending practices of some financial firms such as check cashing services that seek to exploit the most vulnerable in society by charging exorbitant fees.

On a global scale, access is an important sustainability goal for companies addressing the unmet needs of emerging and developed market populations. Financial inclusion seeks to provide empowerment and to lift the low living standards or "bottom of the pyramid" situations by providing opportunity and capital. The ability of these previously unbanked consumers to spend on basic needs has helped to support and spur most economies, benefiting society and providing new markets for responsible, customer-focused enablers of financial inclusion. Financial inclusion can also have beneficial bottom-line impacts for leadership companies through the greater potential revenue growth and market share gains that new accounts can create.

David Hochstim, CFA

Senior Analyst - Financials
33 Years experience
4 Years at ClearBridge

Mary Jane McQuillen

ESG Head, Portfolio Manager
23 Years experience
23 Years at ClearBridge

Stephen Rigo, CFA

Senior Analyst - Financials
19 Years experience
3 Years at ClearBridge

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  • All opinions and data included in this commentary are as of September 30, 2017 and are subject to change. The opinions and views expressed herein are of the portfolio management and analyst team named above and may differ from other managers, analysts or the firm as a whole, and are not intended to be a forecast of future events, a guarantee of future results or investment advice. This information should not be used as the sole basis to make any investment decision. The statistics have been obtained from sources believed to be reliable, but the accuracy and completeness of this information cannot be guaranteed. Neither ClearBridge nor its information providers are responsible for any damages or losses arising from any use of this information.

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