Shedding Some Light On The Murky World Of ESG Metrics
A new study illustrates how a lack of universal standards and transparency across industries means ratings don’t really amount to much. Shedding Some Light On The Murky World Of ESG Metrics
Two years ago, researchers at the University of Chicago Booth School of Business started collecting data to determine the real social and environmental credentials of companies in the S&P 500.
And to make matters worse, the lack of full transparency across industries makes it difficult to see any company’s ESG ranking in context.
For example, some ESG disclosures by utilities were robust. The industry provided statements on company websites listing the most metrics on workforce diversity compared with other sectors. The problem was that the industry performed poorly. A closer look showed utilities ranked second to last in the percentage of female workers employed, according to the study, which was based on an analysis of 2017 corporate social responsibility (CSR) reports.
As for within industries, the lack of universal, comparable disclosure makes internal rankings less than reliable.
“While the number of CSR reports has been increasing, there still isn’t mandatory disclosures, which makes comparing companies’ performance difficult,” said Shirley Lu, who has a doctorate in accounting from Booth and was part of the three-person team that compiled the study.
Lu and her colleagues focused their research on CSR reports published by S&P 500 companies to pinpoint the most commonly disclosed metrics and then used those details to compare relative performance by various industries. The report was compiled in conjunction with Jingwei Maggie Li and Salma Nassar of the business school’s Rustandy Center for Social Sector Innovation.
In the end, the team gathered 69 metrics to assess companies’ social and environmental records. The social bracket included four subcategories: diversity, safety, community engagement and suppliers. The environmental data was narrowed to five items: greenhouse gases, energy, waste, water, and accidents and fines. The exercise was somewhat constrained because only 65% of the companies in the S&P 500 issued a CSR report for 2017.
Among Their Other Notable Findings Were:
* The insurance industry provided the fewest details about greenhouse gas emissions, as well as energy, water and waste consumption.
* The computer industry was one of the biggest consumers of energy—just after petroleum, natural gas and chemical companies.
* Food producers were some of the largest consumers of water.
* The business supplies industry, which includes companies like International Paper and 3M, placed among the top emitters of Scope 1 greenhouse gases (direct emissions from the company’s facilities).
On the social side of the ledger, the retail industry reported having the largest percentage of female employees and apparel companies had the highest percentage of minority employees. As for community engagement, the pharmaceutical industry reported making big donations, led by Merck & Co. and Johnson & Johnson.
But having researchers dig around CSR reports for nuggets of actionable insight is far from a successful strategy for universal ESG rankings.
“The metrics aren’t an end point—they should be a starting point,” Lu said. “They should be used by investors to ask questions about what’s behind the numbers.”
Trump Administration Moves at ‘Warp Speed’ To Scrap ESG Rule
The White House bid to make green investing more difficult would likely face legal obstacles.
Despite widespread objections from the money management industry, President Donald Trump, through the U.S. Department of Labor led by Eugene Scalia, is speeding ahead with a proposal to make it more difficult for fiduciaries of retirement plans to direct money to ESG-focused funds.
The Employee Benefits Security Administration submitted the rule change, called “Financial Factors in Selecting Plan Investments,” to the White House last week. The administration’s stance is that ESG investment strategies sacrifice returns and promote goals unrelated to financial performance.
It wants to adjust the Employee Retirement Income Security Act of 1974 (ERISA) to require those overseeing pension and 401(k) plans to always put economic interests ahead of so-called non-pecuniary goals, in what seems intended as a direct attack on ESG and green investing.
More than 130 fund management and financial advisory firms have written letters opposing the plan since it surfaced in June. And the complaints keep coming.
“You can’t simply disentangle ESG from the risk-and-return analysis in a 21st century investment process,” said Jonathan Bailey, head of ESG (Investing) at Neuberger Berman Group LLC.
The government is “moving at warp speed” to push through the rule, said Bryan McGannon, director of policy and programs at US SIF, a Washington-based group that supports sustainable investment businesses. It typically takes 18 months, not four-and-a-half months, for an “impactful” rule change like this one, he said, adding the administration may be violating the Administrative Procedure Act (APA) in the attempt.
“It’s clear the Labor Department is not taking the public-comment process seriously,” McGannon said. “Our letter alone had six or seven studies that contested the underlying arguments. Across the financial services world, from huge asset managers to small sustainable-investment firms, there has been enormous opposition.”
The proposal, if enacted, would almost certainly be challenged in court. Moreover, if former Vice President Joe Biden wins the Nov. 3 election, it’s equally likely his administration would seek to undo such a change. Last month, another effort by Scalia to speed through rule changes under the Fair Labor Standards Act was partly overturned by a Manhattan federal court for—you guessed it—violating the APA.
“Not sure how they’re bracing for similar fallout from the ERISA change, or maybe officials there don’t even care,” McGannon said.
Jon Hale, director of ESG research for the Americas at Chicago-based Morningstar Inc., said the proposed rule is so “shoddily constructed” that it’s unlikely to withstand legal scrutiny.
“It has significant implications for the retirement savings of millions of Americans, yet the DOL saw fit to allow only the shortest possible time for comment and now seeks to finalize it before the current administration gets tossed out of office,” Hale said. “In a normal process, such overwhelming opposition would send regulators back to the drawing board.”
The Labor Department’s decision to undermine environmental, social and governance investing emerged after the White House called for a review of retirement plans’ investments in the energy sector. It’s no secret that the fossil-fuel industry has been a critical supporter of Trump, who has called the globally accepted science behind global warming a “hoax.”
Investors have been increasing their bets on ESG, in part because they want to avoid polluters like Big Oil. About $20 billion flowed into ESG- and values-focused exchange-traded funds this year (as of Sept. 30), exceeding the calendar-year record of $9.2 billion set in 2019, data compiled by Bloomberg Intelligence show.
Climate change ranks right behind corruption among the biggest ESG-related concerns for investors, according to a survey of about 800 fund industry officials and consultants by RBC Global Asset Management.
But America lags behind the rest of the world when it comes to putting ESG to work financially. While 94% of respondents in Europe, 89% in Canada and 72% in Asia said they have incorporated ESG into their investment approach, only 65% of U.S. investors have done so.
Despite the growing global consensus that ESG makes financial sense, some 26% of American investors still think ESG-integrated portfolios will perform worse than non-ESG-integrated portfolios. Worldwide, only 16% of investors think that way.
The bottom line, Neuberger & Berman’s Bailey said, is “focusing on material ESG factors that have an economic impact on companies is directly aligned with the best interests of shareholders.”
Sustainable Finance In Brief
* The markets are divesting you from fossil fuels, as oil and gas account for a smaller and smaller slice of major benchmarks.
* Climate, not elections, will be moving markets soon, says this ESG pioneer.
* Marie Dzanis, head of EMEA for Northern Trust Asset Management, says sustainable investing has outperformed during market volatility and extremely rough economic conditions.
* PwC says that in five years almost 60% of mutual fund assets will be tied to ESG.
* The financial industry is getting pushed ever-closer to formulating universal rules and definitions governing sustainable investing.
Top ESG Fund With 131% Gain Buys More Asia Renewable Stocks
A top-performing environmental fund is buying more Asian stocks as governments in the region become more climate conscious and embrace renewable energy.
The BNP Paribas Energy Transition fund’s Asia allocation has increased to 18% from 11% in September, co-manager Ulrik Fugmann said in an interview. The fund, which has climbed 131% this year to beat most peers in the environmental, social and governance category, is exploring investments in China, Hong Kong, India and South Korea.
The region has seen growing awareness of climate change with China, Japan and South Korea earlier this year committing to achieving net-zero emissions in the coming decades. Regional companies have also pulled ahead of North American counterparts in climate-risk reporting as Asia’s sustainable funds gather record inflows.
The green ambitions provide a “unique opportunity to both deliver economic growth and turbo-charge progress on meeting our climate goals, and this could potentially translate into significant earnings growth for Asia’s energy transition companies,” Fugmann said.
The fund is underweight U.S. shares as Asia is likely to have better profit and economic growth in 2021. Expectations of a weaker dollar also help, he added.
The $1.8 billion environmental solutions-focused fund is adding positions in Chinese companies linked to wind power generation, and has investments in solar companies and battery makers. Shares of Korean electric-vehicle battery producer LG Chem Ltd. and Hong Kong-listed wind turbine producer Xinjiang Goldwind Science & Technology Co. — part of its top holdings as of October — are up 163% and 34%, respectively, this year.
China’s net-zero plan by 2060 is “incredibly appealing” and will benefit hydrogen fuel cell suppliers that have sizable operations and presence in Asia, Fugmann said.
He and co-manager Edward Lees are also evaluating Indian firms that “could be the main beneficiaries in the decarbonization of the power generation system” including solar power generators, equipment manufacturers and those involved in smart grid technologies. India expects 40% of its power-generation capacity to come from non-fossil sources by 2030.
Still, the U.S. continues to be the fund’s biggest country exposure with more than 40% of the portfolio allocated to companies listed there. Solar panel installer Sunnova Energy International Inc. and Ballard Power Systems Inc., a hydrogen fuel cell developer, were its top two holdings in October. Their shares are up 254% and 194%, respectively, in 2020.
How To Separate Real ESG Funds From The Not-So-Real
This is now a question for the U.S. Securities and Exchange Commission, as the regulatory watchdog wanders into a thicket of inconsistent standards.
Worldwide, there are more than 600 exchange-traded funds that claim to follow the principles of environmental, social and governance investing—in one way or another. But how many of them really do?
This is now a question for the U.S. Securities and Exchange Commission, as the formidable securities watchdog wanders into a thicket of inconsistent standards and yardsticks. In a recent examination, the regulator found both gaps in compliance and a lack of policies among such ETFs to ensure the funds actually match their publicized strategy.
And while the SEC didn’t single out any specific firms or funds for shellacking, that day is on the way. The agency warned in April of possible regulatory penalties for greenwashers.
Since then, analysts at research groups including Bloomberg Intelligence have been developing tools to help investors avoid ETFs that are inflating their ESG bona fides. “It’s a really big challenge due to the varying definitions of ESG and drastically different strategies,” said BI analyst Shaheen Contractor.
The best way to uncover questionable funds, given such an uneven landscape, is to examine their holdings and management fees, Contractor said. In general, actively managed ESG-focused ETFs are “far more opaque” and exposed to “greenwashing risks” than passively managed funds that simply track established ESG indexes, she said.
The world’s largest ESG-labeled ETF, for example, is only in the middle of the pack in BI’s ETF Exposure Scorecard.
The $17.5 billion iShares ESG Aware MSCI USA (ESGU), managed by BlackRock Inc., is an expensive fund based on its ESG characteristics, Contractor said. iShares charges a fee of 15 basis points ($1.50 for every $1,000 invested), which is high for a fund that so closely resembles its non-ESG benchmark, the MSCI USA Index.
Moreover, like many competing ESG offerings, ESGU is loaded with tech stocks, which doesn’t help differentiate it from rivals. The ETF’s largest holdings are Apple, Microsoft, Amazon, Facebook and Alphabet, which together account for almost 20% of the fund’s investments.
Three of these companies are among the biggest companies fighting the SEC over its adoption of—wait for it—new ESG-related disclosures.
Last week, Amazon, Facebook and Alphabet pushed back against SEC calls for more stringent ESG reporting in regulatory documents, such as 10-Ks, saying they’re concerned any missteps could spark shareholder litigation.
“Given that climate disclosures rely on estimates and assumptions that involve inherent uncertainty, it’s important not to subject companies to undue liability,” the tech companies wrote in a joint letter to the SEC.
For an ESG-focused ETF to be heavily invested in the very companies seeking to limit ESG transparency might send the wrong signal in a market where investors smell greenwashing on every corner of Wall Street.
But some funds are measuring up. Another iShares fund (SUSL) and one from Xtrackers (USSG), both versions of the ESG MSCI USA Leaders ETF, are top-ranked U.S.-based funds on the exposure scorecard. These funds have above-average ESG characteristics, meaning the companies they invest in have higher ESG scores from both a performance and disclosure standpoint, Contractor said.
In Europe, the iShares MSCI Europe SRI UCITS ETF (IUSK), overseen by BlackRock, is a market leader for the same reasons as USSG and SUSL, she said.
“With so many ETFs battling for investor dollars, the funds that are going to survive are those with unique strategies and relatively low costs,” Contractor said.
The New Math of Socially Responsible Investing
Investors are putting a lot more money into ESG funds, but they also expect a lot more in return.
ESG investing has come a long way in the past few years.
Once a niche investment sector, strategies that screen companies and other assets based on environmental, social and governance (ESG) criteria are attracting more money than ever.
There are various definitions of—and approaches to—so-called sustainable investing. Some strategies seek to avoid investments in industries deemed harmful to society such as tobacco, while others aim to further environmental or social causes like climate change or workplace diversity. Regardless of the approach, interest in the category as a whole is growing dramatically.
At the end of 2019, about $17.1 trillion—roughly one-third of all assets under professional management in the U.S.—was being managed using some type of sustainable-investment strategy or by institutions that filed shareholder resolutions on ESG issues, according to the most recent data from the US SIF Foundation, a sustainable-investing trade group. That was a 42% increase from two years earlier, the group said.
In the first quarter of this year, meanwhile, a net $21.5 billion flowed into mutual funds and exchange-traded funds that use ESG screens or some other type of sustainable-investing approach, a record amount and almost double the net inflows in the year-earlier quarter, according to a report from Morningstar Inc.
“Individual investors are connecting with the idea that they can address some of the challenges they are concerned about,” says Michael Jantzi, chief executive officer of Sustainalytics, a Morningstar company that focuses on ESG and corporate-governance research.
As more people dip their toes into ESG waters, however, expectations are changing: In addition to feeling good about where they are putting their money, these investors also crave good returns.
And while there are more ways to measure how seriously companies and asset managers take sustainability issues such as workplace diversity and carbon emissions, there still is a lack of clarity when it comes to ESG disclosures, an area where regulators have started weighing in.
Here Is A Closer Look At Those And Other Shifts Taking Place In ESG Investing In 2021:
For years, there has been a subset of investors focused on ESG, and companies that have quietly made such issues a priority, says John Streur, president and CEO of Calvert Research and Management, an investment-management firm that specializes in responsible and sustainable investing across global capital markets.
Now, more investors and companies are getting on board, he says, as a growing body of research suggests that focusing on material ESG issues can drive better financial performance. Outside factors also have been at play, including a political focus on climate change and racial and social unrest following the May 2020 killing of George Floyd and a global pandemic that showed how quickly a multitude of lives can be upended.
“Five years ago, people could still say this is some far-off problem and it could impact my great-great-grandchildren, and I’m not going to worry about it in my investments today,” Mr. Streur says. “That has been debunked and it’s right here, right now.”
The socially conscious investors of yesterday tended to be more focused on causes than performance—that is, they were willing to give up returns to do good things with their money. These days, a lot more people are in it not just to advance causes they believe in, but in the hopes of achieving returns that are equal to or greater than those of traditional investments.
“The whole movement has shifted,” says Craig Jonas, co-founder and CEO of CoPeace, an impact-investing holding company in Denver. “Investors like the idea of having measurable impact plus strong returns,” he says.
A notable 47% of respondents in the Schroders 2020 Global Investor Study say they are attracted to sustainable investments because of their environmental impact, while another 42% base their attraction to sustainable funds on the likelihood they will provide higher returns.
Whether values-based investing actually pays off, however, is a matter of debate. Last year, U.S. sustainable equity funds outperformed their traditional peer funds by a median total return of 4.3 percentage points, while U.S. sustainable bond funds outperformed their traditional peer funds by a median total return of 0.9 percentage point, according to a report from the Morgan Stanley Institute for Sustainable Investing.
But that isn’t the whole story. Meir Statman, professor of finance at Santa Clara University in California, says socially responsible funds tend to have higher annual fees, so their returns are likely to lag behind over time.
“Short-run realized returns are noisy because of luck or other circumstances, sometimes favoring ESG investors and sometimes favoring non-ESG ones,” Dr. Statman says. “Each tends to crow when returns favor them.
The logic of fees, however, suggests that, in the long run, ESG investors are likely to earn lower after-fee returns than non-ESG investors,” he says.
Dr. Statman advises ESG investors to see how their particular ESG fund stacks up over time against a low-cost index fund of the same category. He offers the example of the Vanguard FTSE Social Index Fund, categorized by Vanguard as a large growth fund.
It had an annualized return between May 31, 2000, and June 17, 2021, of 6.73%, compared with 7.67% for the Vanguard Growth Index Fund, also a large growth fund, over the same period.
A look at costs shows that the average annual expense ratio of sustainable ETFs that invest in U.S. stocks is 0.33% versus 0.09% for U.S. equity ETFs in the cheapest quintile by fee, according to Morningstar Direct, an investment-research platform.
A few years ago, it was hard to build a well-rounded portfolio solely from ESG investments, says Heidi Vanni, chief client officer and managing director at Boston Trust Walden Co., a Massachusetts chartered bank and trust company. That is no longer the case, she says.
“Today, in both the public and private markets, there’s no shortage of products—ESG opportunities abound,” says Ms. Vanni, meaning investors can stick to their values-based investing ideals and still be properly allocated across asset classes.
Just how fast have ESG investments grown? The number of U.S. open-ended funds and ETFs with defined sustainability objectives at the end of 2020 grew around 30% from the year before, according to Morningstar.
That’s a nearly fourfold increase over the past decade, with significant growth beginning in 2015. As of the end of the first quarter of 2021, there were 409 of these funds, according to Morningstar.
One thing that makes some investors wary of ESG is the lack of transparency around what ESG really means and how to measure it. Part of the problem is that there is no one global standard for ESG reporting.
In the U.S., the Securities and Exchange Commission generally requires public companies to disclose ESG information if they deem it “material” to their financial condition, operating performance or to risks investors may face. That leaves a lot of wiggle room.
Without a common standard for accountability, companies can cherry pick which metrics to make public in their annual sustainability reports and which to keep close to the vest. Some companies have even been accused of green-washing—that is, conveying a false impression or providing misleading information about their products being environmentally friendly.
Fund managers, too, can have different definitions of what constitutes an ESG investment, which makes comparing products complicated.
In a 2020 BlackRock investing survey, 53% of global respondents cited the “poor quality or availability of ESG data and analytics” as their biggest barrier to adopting sustainable investing, higher than any other barrier that was tested.
Efforts to improve transparency are under way. The European Union in March introduced rules requiring asset managers to start disclosing information on their funds’ environmental and social claims and prepare to back up their claims with more detailed disclosures in January 2022.
The EU also has proposed that starting in 2024, nearly 50,000 publicly traded and large private companies will have to report standardized data on various ESG metrics.
In the U.S., the SEC in March announced an enforcement task force to focus on areas that include climate and ESG-disclosure at public companies. In April, regulators published examples of what they believe fund managers and investment advisers are doing wrong with respect to ESG disclosures and related areas.
And in mid-June, the SEC announced its annual regulatory agenda, which includes disclosures related to climate change and corporate board diversity, among other things.
There also are legislature efforts afoot to hold public companies accountable for ESG-related and other disclosures. The U.S. House just passed a package of bills aimed at strengthening investor protections and requiring companies to provide certain disclosures about their ESG policies and climate risk, among other information.
Data providers, meanwhile, are developing more tools to help investors evaluate how companies stack up. Global index provider MSCI MSCI -0.25% just launched the MSCI Target Scorecard, which allows institutional investors to make direct comparisons between companies’ climate commitments and assess which companies have realistic decarbonization targets.
Under The Microscope
Investors also are watching closely to make sure executives live up to their ESG promises. This proxy season, in particular, institutional investors ratcheted up the pressure on company executives to take action in areas such as climate change, diversity, equity and inclusion and racial justice.
In particular, shareholders at American Express, Berkshire Hathaway, International Business Machines and Union Pacific showed strong support for resolutions requiring the companies to provide data to support their claims of diversity and inclusion, according to As You Sow, a nonprofit that promotes environmental and social corporate responsibility.
“Companies currently tell us stories about their commitments to diverse employees,” says Meredith Benton, workplace-equity program manager at As You Sow. “We’re asking companies to show investors if they can, or cannot, provide data that substantiates what they tell us.”
With the Biden administration pledging to substantially slash U.S. emissions of greenhouse gases by 2030, U.S. companies in all industries are likely to be under scrutiny when it comes to their climate policies. It’s an issue that investors and executives at every company will have to address in some way—big or small, given the underlying social demand, says Remy Briand, head of ESG at MSCI.
Asset management firms, too, are being evaluated for their ability to offer ESG and impact investments. In January, more than a dozen institutional plan sponsors and investment consultants formed the Institutional Investing Diversity Cooperative to increase data and transparency within investment teams in the asset-management industry.
In addition to the sustainability ratings it provides for funds, Morningstar also offers a ratings system for asset managers to evaluate how well they incorporate ESG factors into their investment processes.
“It’s a practice-what-you-preach moment for the industry,” says Amy O’Brien, global head of responsible investing at Nuveen, a global investment manager.
Why Companies Shouldn’t Tie CEO Pay To ESG Metrics
It may sound like a good idea. But it likely won’t achieve the results proponents want.
Executive pay has been the poster child for everything that’s wrong with capitalism. Chief executive officers are paid millions, while some of their employees make minimum wage. Bonus targets often tempt executives to take short-term actions that mortgage their company’s future.
But change is afoot. A rapidly growing trend is for executive pay to be tied not only to financial numbers, but to environmental, social and governance (ESG) targets as well. Two recent studies found that 51% of large U.S. companies and 45% of leading U.K. firms use ESG metrics in their incentive plans.
The rationale seems obvious. First, many advocates have claimed that good ESG practices will boost a company’s bottom line, so incentivizing ESG performance also will improve financial performance. This may be why even private-equity investors have started to mandate ESG targets.
Second, it is commonly believed that rewarding performance is the best way to ensure performance. Conversely, if a company won’t pay for an outcome, that is a telltale sign that it doesn’t actually care about it. Companies are making grand promises about diversity, decarbonization and resource usage—but these promises are hollow if they don’t affect CEO pay.
As an ESG advocate, I should applaud this trend. But as essayist H.L. Mencken is often paraphrased: Every complex problem has a solution that is simple, direct, plausible—and wrong. And this may be the case with ESG targets.
Let’s start with the second argument—that rewarding performance ensures performance. The evidence shows that paying for targets encourages executives to hit those targets. But it doesn’t necessarily encourage them to improve performance.
The crux of the problem is that you can’t measure many of the performance dimensions that you care about—“not everything that counts can be counted,” as stressed by sociologist William Cameron (and commonly misattributed to Albert Einstein). For example, paying executives to meet earnings benchmarks leads many of them to cut research and development to do so.
Importantly, the problem of “hitting the target, but missing the point” occurs for any target—whether financial or nonfinancial. Binary thinking often equates “financial” with “short-term” and “nonfinancial” with “long-term.” But nonfinancial targets can be short-termist.
Paying teachers according to test scores encourages them to teach to the test even at the expense of teaching students to develop critical thinking skills. Rewarding CEOs according to average employee pay may encourage them to outsource or automate low-paid jobs, or focus on salary rather than meaningful work, skills development and working conditions.
These unintended consequences might be even worse for ESG than financial targets. One challenge is that, for financial performance, only a couple of measures might be relevant. But ESG performance is multifaceted.
Companies have a responsibility to many stakeholders—employees, customers, suppliers, the environment, communities and taxpayers—and for each stakeholder, many dimensions are relevant. Either the contract includes only a couple of ESG measures and the CEO ignores others, or it includes most of them and the contract becomes so complex that it loses any motivational effect.
A second problem is measurement. For a financial target such as earnings-per-share, there’s consensus on how to measure it. But that isn’t the case for an ESG metric. Should ethnic diversity be captured by the number of minorities on the board, in senior management, or in the workforce—or other factors such as the ethnic pay gap, or the proportion of minorities who get promoted from each level? Even ESG-rating agencies disagree significantly on how to measure ESG performance, so any measure might be perceived as unfair or ignore important dimensions.
Finally, let’s turn to the first rationale, which holds that boosting ESG performance will always boost financial performance. The evidence is far less conclusive than often claimed. In fact, only performance related to material ESG dimensions (those that are relevant to the company’s specific business model) ultimately pays off; boosting immaterial factors doesn’t.
Thus, if ESG targets are to be used, they should be selected carefully based on materiality. Instead, they’re often a knee-jerk reaction to the demands of pressure groups or whatever issue happens to be the order of the day.
So what’s the solution? I believe the answer is to scrap all bonuses—on both financial and nonfinancial targets—and instead pay CEOs like owners, with long-term shares they can’t sell for five to seven years and must retain beyond their departure. Since material ESG factors ultimately improve the long-term stock price, this holds CEOs accountable for material ESG issues—even if they aren’t directly measurable.
Indeed, evidence shows that long-term pay plans improve not only financial performance, but ESG performance as well, and the relationship is causation, not just correlation. Long-term equity also is simple and transparent—there’s no need to decide which ESG factors to include and which to leave out, how high to set the targets, and how much extra pay to give for hitting them.
Companies should still set ESG goals and report on whether they are meeting them. A CEO already has strong reputational incentives, and intrinsic motivation, to meet a publicly announced ESG goal—so you don’t need pay to ensure a target is hit.
But there’s a big jump between simply reporting on performance and linking pay to it, as the latter amplifies the risk of manipulation. As Goodhart’s Law suggests, when a measure becomes a target, it ceases to be a good measure.
Having said all that, let me offer one caveat: ESG pay targets might be appropriate in some companies if the above concerns are muted. For example, in an energy company, decarbonization is arguably much more important than any other stakeholder issue, so there is less of a concern about overweighting a single ESG factor. Moreover, there is relatively little disagreement on how to measure direct greenhouse-gas emissions.
But those are the rare exceptions. ESG targets aren’t the ubiquitous panacea often claimed. The best way to ensure that CEOs create long-term value for both shareholders and society is to pay them like long-term owners.
India To Set Rules To Encourage Companies Shift To Green Energy
India is making rules that will encourage companies to switch entirely to renewable power, a key step toward decarbonizing the nation’s fossil fuel-dominated economy.
The new regulations will allow companies to purchase renewable electricity from state distributors at “green tariffs,” Power Minister Raj Kumar Singh said at the virtual BloombergNEF summit on Tuesday. Hurdles for businesses seeking to buy clean power directly from generators will also be eased, he said.
Accelerating use of clean energy in offices and factories, the largest power consuming segment in the country, will be key to achieving targets to cut emissions per unit of the GDP. It will also help the companies improve their environment, social and governance — or ESG — scores by reducing their carbon footprint.
Those opting for green power will be allowed open access — when they aren’t tied down to the local distributor — within 15 days, instead of having to wait for months, Singh said. That would force state utilities to either meet the demand or risk losing their high-value customers.
Providing time-bound open access, though a “welcome move,” may be fraught with challenges, according to Debasish Mishra, a Mumbai-based partner at Deloitte Touche Tohmatsu.
Industrial buyers pay the highest prices for grid electricity and help utilities subsidize poorer consumers. Cash-strapped distributors, already facing precarious finances, often resist losing these customers to other suppliers.
“High open-access charges can often create barriers for consumers to directly access green power,” Mishra said. “And as per law, that’s under the jurisdiction of state electricity regulators who would want to balance the interest of the incumbent utility.”
Separately, India will promote offshore wind projects to get to its 2030 goal of 450 gigawatts of renewables capacity, a near fivefold expansion from current levels. That would include 280 gigawatts of solar and 140 gigawatts of wind capacity, the minister said.
Singh cited scarcity of land as one of the challenges for ramping up wind power and said offshore projects will help deal with the issue. The cost of such projects will initially be high and the government is exploring capital subsidies to help developers, he said.
India will fall short of its renewable capacity goal of 175 gigawatts by the next year due to “some hiccups,” Singh said, potentially linked to the pandemic. The country has had to extend deadlines for renewable projects due to difficulties in importing equipment and getting workers at construction sites.
Crypto’s Place In The ESG Investing Zeitgeist: Trusted Data And Aligned Incentives
The theme for this two-part series was “Blockchain meet ESG,” an exploration of the challenges and opportunities that confront the crypto and blockchain communities as investors and businesses increasingly demand compliance with environmental, sustainability and governance objectives.
A total of 14 guests over the two days helped us dive into how blockchain technology can help communities collectively address climate change or boost financial inclusion, and how the technology might overcome its own ESG challenges, such as Bitcoin’s carbon footprint and the crypto industry’s relative lack of diversity.
These issues have become more urgent for the crypto industry as public attention has grown on the heavy energy usage within Bitcoin’s and other protocols’ proof-of-work mining systems. These were especially aroused by Tesla CEO Elon Musk, who walked back the company’s initial intention to accept bitcoin for its cars, citing environmental concerns.
As Wall Street banks and asset managers put ever more resources into ESG investment vehicles and as the Biden Administration puts environmental and other concerns at the center of its regulatory agenda, these matters will only become of greater importance to the crypto industry.
Industry insiders are trying to flip the debate. With the right deals and policies in place, Bitcoin mining could be used to underwrite the rollout of renewable energy infrastructure, for example. And blockchain technology could help resolve what is arguably the biggest barrier to the effective deployment of ESG mandates: a consistent record-keeping system to accurately measure their impact.
The technology could also help align incentives within an economic ecosystem so that all profit-seeking participants are motivated to achieve outcomes that serve the public good.
This first episode, recorded on Monday, May 24, tackles the complexities of counting, tracking, and reporting ESG, including climate accounting, sustainable investing, Wall Street’s ESG movement, blockchains for ESG tracking and tokenizing ESG.
You’ll Hear From The Following Guests, Each In Short 5-10 Minute Segments:
* Massamba Thioye, co-chair of United Nations Framework Convention on Climate Change, and Martin Weinstein, founder of Open Earth Foundation, discussed the planet’s carbon accounting needs. They offered a high-level view of the humanity-wide challenge of how to consistently measure our collective ability to meet the Paris Accord’s 2050 targets for carbon neutrality and of how blockchain technology could help.
* Kevin O’Leary, the Chairman of O’Shares ETF chairman and investor on CNBC’s “Shark Tank” show, explained how increasingly powerful ESG committees are making institutional investors more picky about the assets they funnel money into. He shared some of his ideas on how the Bitcoin community can better adjust to this new reality.
* Mark McDivitt, CEO of Context Labs and former global head of ESG at State Street, ran with the mantra of “what we can measure we can manage” to argue for sophisticated blockchain-based models involving multiple calibrations and analyses to ensure that environmental data is trustworthy enough for investors.
* Cristina Dolan, the CEO of InsideChains, spoke of her work for a forthcoming book about data science and ESG demands, in which she and co-author Diane Barrero Zalles, detail the need for standardization and how this technology might help.
* Marc Johnson, senior associate at Rocky Mountain Institute, highlighted his organization’s work using a blockchain model for tracking cumulative carbon emissions and reductions at each stage along a supply chain.
* And Paul Brody, global blockchain leader at Ernst & Young, outlined a vision for how tokenization based on trusted environmental and sustainability data can generate digital assets that economically incentivize both investors and the businesses that issue them to consistently strive for positive ESG outcomes.
Airlines To Be Charged More For Polluting In EU Green Push
Airlines in the world’s biggest carbon market will eventually have to pay for all the pollution from their planes as the European Union strengthens its climate policies under the Green Deal.
A proposal by the European Commission includes a gradual phase out of emission allowances for carriers, and will be part of measures to be announced on July 14, according to a person with knowledge of the matter. The package will also introduce stricter demands on companies in the transport sector to use cleaner fuel.
The EU aims to make its Green Deal and the ambitious environmental overhaul a new growth strategy as its economy recovers from the pandemic. The planned clean push also includes strengthening and expanding the bloc’s carbon market, creating a new emissions-trading program for buildings and road transport and setting new emissions standards for cars.
The Commission wants to oblige fuel suppliers to blend an increasingly high level of sustainable aviation fuels into existing jet fuel sold at EU airports, said the person, who asked not to be identified because talks on the the draft laws are private. In addition, the EU executive is planning to encourage the uptake of synthetic low-carbon fuels under the so-called Fit for 55 package.
Cleaner fuels will also get preferential treatment under EU’s new energy taxation framework.
The legislative push is aimed at aligning the European economy with a new goal to reduce greenhouse gases by at least 55% by 2030 from 1990 levels. The previous objective was a cut of 40%.
That package will also include proposals to increase the share of renewable energy, boost energy efficiency and toughen national emissions-reduction goals. The Commission will aim to make the transition in a “fair, cost-efficient and competitive way,” it said in the draft document that will be sent to national governments and the European Parliament next week.
A Climate Action Social Facility Fund will be launched to help the most vulnerable households offset the costs of the transition. To help allay concerns of poorer member states, the EU also wants to bolster carbon market’s Modernization Fund. which supports lower-income countries and to re-distribute one-tenth of carbon allowances for auctions.
Nordea Asset Management Adds Dark-Green ESG Strategy To Offering
Nordea Asset Management is offering a new dark-green equity-based investment product for investors keen to make a simultaneous impact on the climate and society.
The fund will be managed by the team behind Nordea Bank Abp’s climate fund. Demand for that product has recently swelled to 8.3 billion euros ($9.9 billion), prompting the bank twice this year to try and slow the pace of inflows so that it could continue to manage the product efficiently.
The new Global Climate and Social Impact Strategy seeks “to deliver attractive returns by investing in businesses that provide meaningful solutions to address pressing social and environmental needs,” Nordea said on its website on Tuesday.
“New consumers care not only about what the products are made of, but how they are made,” Thomas Sorensen, co-manager of the fund, said. “That’s why we look for companies that marry purpose and profits.”
The product is classified as an Article 9 investment under the European Union’s Sustainable Finance Disclosure Regulation, or SFDR, Nordea said.
U.S. Companies Say Climate Change Is a Problem—But Still Lobby Against Solutions
A new report from sustainability nonprofit Ceres finds that most large companies aren’t putting lobbying muscle behind climate goals.
While more than 80% of the largest U.S. companies have set emissions reduction goals, less than half engaged with lawmakers to advocate for science-based climate policies — and more than 20% have lobbied against them, according to report released Tuesday by sustainability nonprofit Ceres.
“Claiming credit for making operational climate change commitments while undermining the necessary policy measures to achieve those very commitments poses significant reputational and financial risks to companies,” the report’s authors wrote.
Ceres’s analysis comes as climate concerns are playing a larger role in capital markets and shareholder actions. So far this year, companies around the globe have issued $297 billion in green bonds, a 152% increase year-over-year, according to data compiled by Bloomberg.
Shareholders also have been increasingly forceful in demanding change, including from fossil fuel titans Exxon Mobil Corp. and Chevron Corp., which were each the target of successful resolutions demanding climate-conscious changes to corporate strategy.
“This is a work in progress,” said Steven Rothstein, managing director of the Ceres Accelerator for Sustainable Capital Markets. “The good thing is companies are highlighting their climate needs. Investors are shouting it from the rooftops in every way they can, and now it has to go deeper.”
Ceres’s report included 96 members of the S&P 100 in 2019, with four companies excluded due to later mergers and other consolidations. The group scored the companies on how they assess, systematize, advocate for, and engage with science-based climate policies in disclosures and documents such as annual filings, as well as on their advocacy and trade group memberships. A science-based climate target is one aligned with the Paris Agreement goal of restricting global warming to below 1.5 degrees Celsius, which will require reaching net-zero emissions worldwide by 2050.
Almost three-quarters of companies in the report describe climate change as a material risk in their regulatory filings, while nearly 90% have tasked their boards with overseeing climate and ESG topics. “What makes me optimistic is that so many companies are recognizing that climate is a crisis and they’re taking bold steps,” Rothstein said.
One lobbying group, the U.S. Chamber of Commerce, came under particular scrutiny from Ceres due to its “oppositional climate change track record,” according to the report. Close to 75% of the companies Ceres analyzed are members of the Chamber, but only one — Apple Inc. — left the lobbying group over its climate stance. Earlier this year, the Chamber reversed its previous stance on climate policy and said it supports a “market-based” approach to reducing emissions, such as a carbon tax or emissions caps.
Rothstein calls these “good initial steps,” but “not enough” to get to net zero.
Matt Letourneau, a spokesperson for the Global Energy Institute at the U.S. Chamber of Commerce, said that the lobbying group is proud of the work it’s doing “to bring meaningful, achievable solutions to the global climate challenge.”
“The business community is at the leading edge of innovation and investment in the technology necessary to reduce emissions, and will be an important voice in the international and domestic policy dialogue,” Letourneau added.
Ceres’s report also comes as Democrats in Congress try to cram many of their domestic priorities, including climate policy, into a budget reconciliation bill they hope to pass later this summer. Rothstein hopes legislators will include funding for projects such as retrofitting homes for energy efficiency and building out electric-vehicle charging networks, he said.
Fund Managers Struggle To Keep Up With New Guideposts For ESG
Many of the world’s biggest asset managers say they’re increasingly struggling with some of the rules guiding the $35 trillion market for environmental, social and governance investing.
Much of the confusion revolves around defining the “S” in ESG.
The guideposts are generally seen as confusing and this is “going to become a bigger issue going forward,” according to Rick Redding, chief executive of the New York-based Index Industry Association.
He points to a survey by the IIA, which shows that 56% of 300 investment professionals in Europe and the U.S. — some managing more than $1 trillion — say they’re having a hard time keeping up with edicts intended to steer capital into ESG assets. At the same time, 85% say ESG is a high priority for them.
“The ‘S’ is becoming the problem,” Redding said, referring to socially responsible investing. “What we are seeing is potentially different regulatory approaches to ‘S’” across various jurisdictions, he said.
The concern is that “you have a lot less quantitative data available,” which makes it hard for investors to back up their strategies with numbers, Redding said.
Andy Howard, who helps oversee more than $920 billion as the global head of sustainable investment at Schroders Plc, says he’s hoping for clearer European Union rules to help guide the industry. Investors in the bloc already have a green taxonomy.
They’re now waiting for a social taxonomy to help them define and measure the social risk in everything from how a company treats its workers, to its exposure to child labor as well as basic parameters like equality.
But that won’t be ready for a while. For now, a so-called subgroup appointed by the EU is still exploring what should go into a social taxonomy, with a report on their findings due at the end of this year.
Mairead McGuinness, the EU’s financial markets commissioner, says the bloc’s work to produce a social taxonomy will include taking a “forensic look” at supply chains, how businesses treat their employees and issues of diversity and inclusion. More details about this work should be available before 2022, she said at a recent Bloomberg summit on sustainable investing.
Redding at IIA says that countries and regions look set to apply different standards for how they expect their asset management industries to approach the “S” in ESG.
“North America has really good data for gender and board participation,” he said. “But in parts of the world, it is just not there.” He also notes that the underlying assumptions behind social considerations can vary greatly.
“Things like gender diversity, it just doesn’t mean the same thing in some parts of the world,” he said.
Howard at Schroders says investors can’t afford to ignore the social dynamics of the businesses they help fund. “In the end, social trends or challenges underpin the performance of companies,” he said.
The problem is measuring it. “‘Society’ is a broad term and spans a huge range of issues,” Howard said.
Nathan Fabian, chief responsible investment officer at the Principles for Responsible Investment and chair of the EU Permanent Sustainable Finance Platform, says it’s clear that “the ‘E’ is more advanced than the ‘S’ when it comes to rules around ESG investing.”
But Fabian says the pandemic has added a sense of urgency to coming up with an adequate rulebook.
“We are running late on achieving the SDGs (the United Nation’s sustainable development goals),” he said. “And the pandemic has shown how deep the inequalities in society have become.”
When It Comes To ESG, Companies Often Find It Hard To Stand Out
One Reason: Various metrics are rolled up into one number, making it hard to differentiate.
Companies have a lot of good reasons to pay close attention to environmental, social and governance factors: attracting talented employees who want to work at a place that is making a positive impact on the world; responding to regulators who are demanding more ESG-related transparency; and pleasing major investors who are pushing them to be sustainable for the long haul.
But there’s at least one thing that being ESG-minded may not do: help a corporation stand out from the crowd as much as other actions might.
That’s the big takeaway from our latest analysis of the Management Top 250, an annual ranking produced in partnership between the Drucker Institute and The Wall Street Journal. It uses the central principles of Peter Drucker to assess a company’s “effectiveness,” which the late management scholar defined as “doing the right things well.” The 2020 list was published in December.
In all, we evaluated 886 large, publicly traded companies last year through the lens of 33 indicators that fall into five categories: customer satisfaction, employee engagement and development, innovation, social responsibility and financial strength.
To form our rankings, firms are compared in each of the five areas, as well as in their overall effectiveness, through standardized scores with a typical range of 0 to 100 and a mean of 50.
In our most recent research, we wanted to see where companies were setting themselves apart, thereby shedding light on the richest opportunities for firms to build a distinct reputation or brand identity.
The runaway winner was innovation, where the spread between the highest-scoring company in our universe ( Amazon.com Inc. at 135.9) and the lowest ( Apartment Investment & Management Co. at 36.5) is a whopping 99.4 points.
In fact, because several other companies in addition to Amazon score over 100 in innovation—literally off the charts—this is the one category in our rankings where the 886 firms are not within the bounds of a normal distribution. You can picture this as a fat tail to the right, throwing off the shape of the bell curve.
A Tight Span
All of the other categories—including social responsibility, where our ESG metrics are housed—have normal distributions.
Nonetheless, the configuration within social responsibility is striking. It has by far the narrowest span—50 points—between the highest-scoring company ( Microsoft Corp. at 78.9) and the lowest-scoring firm ( Seaboard Corp. at 28.9). The differential is 67.3 points in customer satisfaction, 73.4 points in employee engagement and development and 76.3 points in financial strength.
A review of historical data makes clear that this isn’t a blip. We discovered that this relative tightness in scoring for social responsibility stretches back consistently to 2012, the earliest year for which we have metrics.
None of this is to play down how essential the social-responsibility category is to our model. Indeed, it has correlated more strongly with total effectiveness over the years than have any of the other four areas.
What’s more, a 50-point gap between the highest- and lowest-scoring companies in social responsibility is hardly trivial. In statistical terms, that’s five standard deviations—roughly equivalent to the difference in height between National Basketball Association center Joel Embiid, who stands 7 feet tall, and Muggsy Bogues, who, at 5-feet-3, was the shortest player in league history.
At the same time, our findings do highlight some important nuances when it comes to the way ESG is measured. The first is that the various components and subcomponents of ESG are often rolled up into a single metric, just as we do in our model, and that tends to wash out differences among companies.
“You really need to dig in and look at the E separately from the S separately from the G,” says R. Paul Herman, the chief executive of HIP Investor, which along with CSRHub, Sustainalytics and several others provides the social-responsibility data that we use in our rankings. If not, he says, “it can all blend together.”
Another issue is that companies are, in many cases, rewarded by ESG trackers for having a policy in place for, say, emission reduction or not using forced labor in their supply chain.
Because it’s easier for corporations to put something on the books than it is for them to follow through and make sure that these policies are being carried out, that also results in a clustering of ESG scores. Meanwhile, some ESG ratings give companies credit for disclosure, even when the substance of what they’re disclosing isn’t terribly impressive.
“Much of it is process-based, not performance-based,” says Tensie Whelan, director of the Center for Sustainable Business at NYU Stern School of Business.
There are signs that this is changing, however, as the ESG field matures. And as the metrics increasingly reflect who is actually taking care of people and the planet in ways that are meaningful, we suspect that companies will distinguish themselves all the more—some for better and others for worse.
Yes, You Can Align Your Pursuit of Early Retirement With ESG Ideals. Here’s How.
Interest in ESG investments has exploded over the past few years among individual investors who are concerned about the impact of their investments, helping drive short-term outperformance. But some observers question whether such investments can deliver the longer-term market-beating returns that would likely be required by investors who are pursuing financial independence or looking to retire early.
Cody Garrett, a certified financial planner at Houston-based Measure Twice Financial, isn’t surprised that environmental, social, and governance investments have piqued the curiosity of his clients who are FIRE adherents. “The philosophy behind financial independence is aligning financial objectives with personal values,” he says. That closely mirrors the mindset of many ESG investors. “The FIRE community is waking up to what their investments are supporting and how their money is being used.”
But does restricting investment options to socially responsible assets hinder FIRE plans, where the ultimate goal is to maximize returns for the long haul?
Garrett says no, and he has some tips for aligning a FIRE portfolio with ESG tenets:
ESG for the right reasons: ESG funds are often overweighted with growth stocks that tend to be more ESG-compliant, such as big tech. These funds handily outperformed the broader stock market during the pandemic, Garrett says, though he warns that the lead may not be sustainable as value stocks recover.
That said, he believes large market cap-weighted ESG funds will likely remain closely correlated to their non-ESG counterparts. Why? As ESG funds make exclusions, they push more assets into the biggest companies by market cap, including big tech, which can help their performance relative to non-ESG funds, Garrett explains.
“I think a lot of people are tempted to move into the ESG space because they’re attracted to the short-term gains made over the last year or so,” Garrett says. Yet he cautions investors against the temptation to chase returns. “What happens if ESG ends up underperforming, are you, as an investor, going to change your mind?” he asks. “The decision to use ESG should be a decision to align your money with personal values, not merely a financial choice.”
Choosing funds. There is no consensus definition of an ESG asset. A particular company could excel in environmental issues while falling short at corporate governance. What’s more, ESG funds set their own criteria of inclusion or exclusion.
To know for sure whether investments match individuals’ values, investors have to take a look under the hood. The fund’s prospectus will explain its methodology, and Garrett recommends looking at Morningstar’s sustainability rating, which is “continually improving, so there’s more consistency,” he says.
Ditch the one-size-fits-all approach. When considering the individual goals and values that bring people to the FIRE movement, the advice they receive is often strikingly generic: Put your money in a low-cost index fund and wait. The strategy is sometimes known as “VTSAX and chill,” referring to the Vanguard Total Stock Market Index Fund Admiral Shares commonly used by FIRE investors.
ESG strategies are inherently more varied, and Garrett encourages his FIRE clients to branch out and build a portfolio that better reflects their individual values.
When building out the equity portion of an ESG portfolio, Garrett recommends a “core and explore” strategy. Practically, that means a core investment representing about 90% of the equity portfolio that includes broad ESG index funds. These funds are typically based on broad-market indexes and exclude stocks that don’t meet their ESG criteria, like petroleum companies, for example.
For Garrett, the remaining 10% of the equity portfolio represents a chance for clients to explore specific funds or sectors they are passionate about, such as alternative energy or funds that invest in women-led companies.
ESG Investors Question Their Own Methods After Grim Climate Report
A landmark report from the IPCC prompts leaders in sustainable finance to consider a longer-term focus and new ways to measure investments.
The damning United Nations report on global warming delivered a reality check for the investors betting that markets can limit the damage.
The assessment by the Intergovernmental Panel on Climate Change, released on Monday, should prompt investors to “review their commitments to tackling climate change and to take action,” said Fiona Reynolds, chief executive of the UN-backed Principles for Responsible Investment.
Often that kind of reflection sends more money pouring into environmental, social and governance investments, raising concerns that financial markets’ short-term outlook might end up undermining claims of sustainability. Between 2018 and 2020, for example, European asset managers had to strip the ESG label off $2 trillion in allocations, as stricter rules were devised.
Sebastian Mernild, one of the co-authors of the IPCC’s report and a professor of climate change at the University of Southern Denmark, says the message to the finance industry is that tackling global warming requires a longer perspective. “We are looking into 2060, 2100,” Mernild said.
“Every time we increase the global mean temperature by half a degree, then we will face a more extreme climate. That will have severe consequences for us. It will be very costly.”
Praxis Mutual Funds, one of the oldest socially responsible investment firms, which manages about $2 billion, said the IPCC report shows the need to move faster in the short-term and invest in green debt that can have greater real-world impacts. “It changes the calculus,” said Chris Meyer, manager of stewardship investing research and advocacy. “We will need to have a sharper focus. This report shows that investors aren’t moving quickly enough.”
Schroders is among the fund managers that have committed to establishing a pathway to net zero. The adoption of these goals hasn’t yet led to lowered emissions, as the IPCC report makes clear. “Finance alone cannot solve the climate threat. This is ultimately a question of every group making significant and sustained steps to cut emissions,” said Andy Howard, the head of sustainable investment at Schroders. “Anyone looking at the same picture and data must surely reach a similar conclusion.”
With the scientific consensus now making clear that the average global temperature is very likely to rise at least 1.5° Celsius above pre-industrial levels by 2040, investors may need to pay even more attention to their contribution to limiting warming. That’s where temperature-alignment metrics come in. These grade portfolios based on their holdings’ projected greenhouse gas output.
It can be helpful “in evidencing what is a fair share that a given company needs to be doing to meet the carbon budget and how exposed companies may be to value impact from the transition,” said Christopher Kaminker, head of sustainable investment research and strategy at Lombard Odier Group.
Among asset managers to have released such data is Axa SA, which is doing better than most. But even after cutting its exposure to greenhouse gas emitters, its portfolio still implied a temperature increase of almost 3°C by 2100. At that level, scientists warn that large parts of the planet become uninhabitable, entailing mass extinctions of species. Yet knowing the number at least provides a picture of the real-world fallout of an investment strategy.
Elsewhere, U.K. insurer Aviva Plc and Japan’s $1.7 trillion Government Pension Investment Fund have published data on warming potential. New York-based BlackRock Inc., with $9.5 trillion of assets, plans to do the same for some of its funds, and the practice looks set to spread in the years ahead.
It could be a clear step toward embracing the science more seriously, which some argue has been lacking in the asset management industry. Still, critics of implied temperature metrics say there’s a lack of reliable emissions data to make the computations and the metrics rely on assumptions.
Many strategies chasing ESG returns still fail to take into account the economic impact of climate change, according to an analysis by the head of strategic research at Nordea Bank Abp. The research finds that the biggest risks lie in the hottest parts of the world, many of them emerging markets.
“There has been a disconnect between what academics have found and what the financial industry has based its views on,” said Steen Winther Blindum. His report, “How Climate Change Affects Return on Your Investments,” builds on existing research to show how countries most exposed to global warming face the biggest declines in gross domestic product. “We know if GDP is affected, then there’s also an impact on the returns of these risky assets,” he said.
“The reason we started this work was because we saw a lot of portfolio managers were seeing opportunity in these regions because they looked cheap,” Blindum said. At least for those who don’t consider the toll of climate change. “We wanted to remind people that maybe you should look a little more carefully into this.”
Academic work linking an overheated planet to the loss of economic wealth has yet to be acknowledged by much of the asset-management industry. There are a few exceptions, and Blindum says the biggest managers such as BlackRock have started to incorporate more climate science in their ESG models. But many are still guided by short-term profit models that are ill-suited to the threat posed by global warming.
Banker Bonuses Tied To ESG Metrics Are On The Rise In Europe
European bankers will soon have to show they’re contributing to a cleaner environment, a better society and good governance — or face a smaller pay package.
In the latest sign that ESG is reshaping finance, most of the 20 major European banks surveyed by Bloomberg said they were either working on, or already had, a model that links staff remuneration to a firm’s performance on sustainability metrics. That’s as European regulators explicitly add ESG risks to pay guidelines, with the change due to take effect by the end of 2021.
Nicole Fischer, who advises German financial institutions on pay at Willis Towers Watson, said the industry is now “in a transformation phase where ESG is being anchored firmly in remuneration.”
The development opens another avenue through which policy makers in Europe are trying to redefine capitalism. The ultimate goal, ideally, is to make it financially attractive to be good. But measuring sustainability is far from straightforward, which the finance industry itself has acknowledged. That means bankers’ pay will in future partly rely on a variable that’s harder to quantify than profit, which might make it easier to game.
Despite the absence of common detailed standards, some of the world’s biggest banks say they’re already working ESG goals into their remuneration policies.
At HSBC Holdings Plc, executive directors need to cut the bank’s carbon emissions and help clients do the same, failing which 25% of the grade that determines their variable pay packages through 2023 will be impacted. Last year, when environmental issues made up a smaller share, Chief Executive Officer Noel Quinn and Chief Financial Officer Ewen Stevenson both scored 85% on that particular metric.
UniCredit SpA said 10% of its pay scorecard for top and senior management depends on the bank’s ESG ratings and on how satisfied customers and employees are. This year, the Italian bank extended sustainability metrics to include so-called material risk-takers, such as investment bankers. UniCredit’s ability to reduce its impact on the environment and develop more ESG products and services will feed into the size of the bonus pool.
For staff at some banks, not having their pay hinge only on profits has its benefits. Last year at La Banque Postale SA, where bonuses for the wider organization are tied to both sustainability and earnings, “the other business objectives weren’t met because of the Covid crisis,” said Adrienne Horel-Pages, the French bank’s chief sustainability officer. She said “the only reason” the workforce got a bonus was because of the bank’s ability to remain in the top quartile of ESG rankings given by rating companies.
The ubiquitousness of ESG as a financial strategy was underlined yet again on Thursday amid news that Goldman Sachs Group Inc. had agreed to buy the asset management arm of Dutch insurer NN Group NV, to expand the Wall Street firm’s presence in Europe and give it better access to the market for sustainable investing.
Another of the Bloomberg survey’s findings was that banks, by and large, aren’t intending to go on hiring sprees to add ESG expertise. Instead, most responded that they expect to rearrange and retrain existing teams to dedicate more people to sustainability.
At La Banque Postale, for example, Horel-Pages said she’s only bringing in one or two people from outside the bank as part of a plan to add eight people to her team. The rest will join from other departments.
Inevitably, banks will face some skepticism as to how well their ESG metrics actually promote good governance, social justice and a greener planet. That’s as scientists warn time is running out to save the world from a climate disaster, leaving no room for error in the corporate and political response. At the same time, the financial industry itself said measuring ESG performance is fraught with uncertainty.
At a Financial Stability Board workshop in May, participants from banking, insurance and asset management said they take “ESG, reputational and diversity-related factors” into account when assessing performance and setting pay. But they also said such sustainability criteria aren’t easily quantified. And without proper governance structures, they “could be potentially engineered such that variable remuneration reaches a desired level.”
The workshop participants also acknowledged that while ESG criteria are likely to play a bigger role in the future, implementing a longer-term outlook is “challenging” because some competitors may play by different rules and follow shorter-term incentive structures.
Regulators are aware of the challenges. A 2019 review by the European Banking Authority found that while banks in the region supported corporate clients through green loans and bonds, their own planning time horizons, linked partly to remuneration, curtailed their ability to tackle climate risks.
The EBA’s updated remuneration guidelines, which take effect at the end of this year, make clear that firms will be expected to build ESG into staff pay. But even here, there’s room for interpretation, as the language indicates.
“The institution’s remuneration policy for all staff should be consistent with the objectives of the institution’s business and risk strategy, including environmental, social and governance risk-related objectives, corporate culture and values, risk culture, including with regard to long-term interests of the institution, and the measures used to avoid conflicts of interest, and should not encourage excessive risk taking,” the EBA said in its final draft report on the guidelines, published July 2.
European Union transparency rules which took effect in March mean banks will also have to publish information on how they factor ESG risks into remuneration. Such information is usually disclosed in annual reports, meaning many banks will probably wait until early next year to provide it.
According to some members of the finance industry, though, the incentive to incorporate ESG metrics stems from more than just regulations. Banks perceived to be laggards may face public backlash, which has the potential to dent returns.
“Firms that reflect ESG in pay do a better job of looking forward and recognizing risks early on,” said Ingo Speich, head of sustainability and corporate governance at Deka Investment. “Sustainability is a value driver.”
SEC Weighs Requiring Companies To Give More ESG Details On Workers
Chairman Gary Gensler asks staff for recommendations on human-capital disclosures as Democrats seek more-detailed information on diversity, other metrics.
The Securities and Exchange Commission is considering asking public companies to disclose more information about their workforces.
“Investors want to better understand one of the most critical assets of a company: its people,” SEC Chairman Gary Gensler said earlier this week in a Twitter thread. “I’ve asked staff to propose recommendations for the Commission’s consideration on human capital disclosure.”
Mr. Gensler previously said the disclosures would likely be mandatory for public companies and could touch on a number of metrics, including turnover, skills and development training, compensation, benefits, workforce demographics including diversity, and health and safety.
The SEC included human-capital disclosures on a list of potential rule-making items it published on June 11.
Large companies have already been moving to provide more information about diversity in their workforces, a Wall Street Journal analysis found in March.
The trend has been driven partly by demand from investors following 2020 protests over racial inequity and partly by changes under way at the SEC.
In an August 2020 update to corporate-disclosure rules, the SEC encouraged public companies to include a description of their human-capital resources “to the extent such disclosures would be material to an understanding of the registrant’s business.”
That guidance was in line with recommendations from business groups such as the U.S. Chamber of Commerce.
But it didn’t require the level of detail that the SEC’s two Democratic commissioners at the time had called for. Democratic commissioner Caroline Crenshaw said the language was too “generic and vague” to produce useful information for investors and said the SEC should ask for more specific disclosures.
Mr. Gensler’s confirmation as chairman in April gave Democrats a 3-2 majority on the commission.
Earlier this month, the SEC also approved a proposed rule change by Nasdaq Inc. that would require companies listed on the exchange to meet certain minimum targets for the gender and ethnic diversity of their boards or explain in writing why they aren’t doing so.
ESG Investors Struggle To Find The Right Balance In Doing Good – And Solar Panels Show Why
The need to combat climate change collides with supporting human rights for Uyghurs in China.
The Intergovernmental Panel on Climate Change issued a stark warning this month that human-led warming from burning of fossil fuels is causing climate change and removing carbon emissions will cause warming to cease.
That makes transitioning to renewable energy like solar power even more urgent. However, reports that China forced Uyghurs to work in labor camps to manufacture the key ingredients in solar panels puts socially responsible investors in an uncomfortable position between weighing preventing climate catastrophe and supporting human rights.
Further, human-rights advocates pushing for better treatment of the ethnic group were inadvertently handed a setback with the U.S.’s withdrawal from Afghanistan. Now that the Taliban have regained control of Afghanistan, China may have heightened concerns of renewed militancy in central Asia, which is near Xinjiang, home to the Uyghurs, who are Muslims, a religious minority in China.
All of this underscores the limits to investing according to environmental, social and governance principles. Global supply chains are often murky and opaque, as many clothing manufacturers have learned.
Some issues can best be tackled by governments rather than gaining board seats or otherwise influencing company strategy. In the best-case scenarios, change can take years, but sometimes change never comes despite activists’ efforts. And ESG proponents regularly must weigh competing concerns, in this case environmental and labor interests, and decide where they can have the most influence.
The Labor Allegations In China
While concerns that Uyghurs worked in forced labor camps were around for several years, a report from Sheffield Hallam University earlier this year uncovered a connection to the solar industry. The report, “In Broad Daylight: Uyghur Forced Labor and Global Solar Supply Chains,” detailed accusations that the Chinese government put millions of indigenous Uyghur and Kazakh citizens from the Xinjiang region into labor camps to mine polysilicon, a key material in panel manufacturing.
The Chinese government characterizes these camps as a voluntary, government-supported poverty-alleviation effort and a way to counter terrorism. Officials repeatedly deny all allegations of human-rights violations.
Some 95% of solar modules rely on polysilicon, the feedstock to create solar cells, and according to the report, polysilicon manufacturers in the Uyghur region account for approximately 45% of the world’s solar-grade supply. “In 2020, China produced an additional 30% of the world’s polysilicon on top of that produced in the Uyghur Region, a significant proportion of which may be affected by forced labor in the Uyghur Region as well,” the authors say.
The U.S. recently begun paying more attention to products imported from the region that might be made forced labor. In June, the Biden administration banned the import of solar panels and other goods produced by Hoshine Silicon, a Shanghai-listed company that produces and sells silicon-based materials and operates plants in Xinjiang.
The company has a market value of about $22.2 billion, but less than 13% of its shares are freely traded. It accounts for a small part of U.S. solar imports.
The U.S. also placed some restrictions on four other Xinjiang silicon producers, including Daqo New Energy Corp., a $3.35 billion company that is one of the world’s largest polysilicon producers and has an ADR listing in the U.S.
The Solar Energy Industries Association, a U.S. industry group, encourages companies to move supply chains out of the region and for companies to sign a forced labor prevention pledge, among other actions. So far more than 280 companies have signed this pledge, including utility Duke Energy, Tesla (which acquired SolarCity in 2016 and now is part of Tesla Energy) and JinkoSolar U.S., the U.S. subsidiary of the Chinese panel maker.
ESG Managers In A Tough Spot
Chris Meyer, manager of stewardship investing research and advocacy for Praxis Mutual Funds, a faith-based ESG fund, says the report’s findings help to illustrate the gray areas of investing and that global supply chains are complex and often opaque.
“It’s not what we want to see associated with solar. I say we in the ESG community more broadly, and also we at Praxis, but I think we’re better for knowing it because we can begin to address it now,” he says.
But at the same time, he adds, “it’s not a reason to avoid solar renewable energy entirely. The world is in climate triage.”
Praxis works with utilities to retire coal plants and switch to renewable energy in a way that supports utility employees and the communities where the plants are located as part of a “just” transition that ensures people of all backgrounds take part in a non-carbon economy.
That’s another reason why the Uyghur situation is tricky for ESG funds. Although renewable-energy use is expanding in the U.S., “we don’t want it to come at the expense of people or planet on the production side,” he says.
Meyer says Praxis is increasing its advocacy with its portfolio companies on the solar supply chain, but doing so is tough. He declined to name which companies. “It’s a pretty raw issue right now,” he says.
The limits Of ESG Investing
There are limits to what fund managers can do, and the remedies to the situation are complex. A European environmental institutional fund manager who does not have direct exposure to investments in Xinjiang says normally ESG fund managers advocate with companies to improve corporate behavior to benefit all stakeholders, but this situation is different because the fate of the Uyghurs is up to the Chinese government.
“There is absolutely no way that because U.S. utilities aren’t using Xinjiang polysilicon, the Chinese government will change their policy,” the fund manager says, adding that even if solar manufacturers move out of the country, Uyghur life won’t change.
The U.S. government raised concerns about China’s treatment of Uyghurs only recently. After the terrorist attacks on Sept. 11, 2001, the Bush administration sought to enlist China’s help in counterterrorism to fight al Qaeda. By 2002, the Bush White House designated the “East-Turkistan Islamic Movement” a terrorist organization, blaming it for terrorist attacks including arson and assassination in China.
The group is a target of Chinese counterterrorism and has used it to justify cracking down on the Muslim-majority Xinjiang region. The U.S. State Department removed the group from its terrorist list in November 2020, saying there was no credible evidence the group still existed.
Potential Benefit For U.S.-Based Solar Production
Of course, ESG investors could look for other solar-panel manufacturers to support their environmental interests. There is some push to onshore U.S. solar production, and in June four Democratic senators introduced the Solar Energy Manufacturing for America Act to provide tax credits for American manufacturers across the solar-manufacturing supply chain to ramp up domestic solar production capacity. But building an industry from near-scratch will take time.
Cindy Bohlen, research analyst at Riverwater Partners, an ESG financial adviser, says there may be an opportunity for a company such as First Solar to benefit from investor interest in a U.S.-based solar panel manufacturer. First Solar, which has a market cap of about $9.9 billion, uses a thin-film manufacturing process, rather than polysilicon. However, it is more costly to produce than the panels made with polysilicon.
“It seemed to us that this whole situation would present a good opportunity for them,” Bohlen says, noting her firm hadn’t invested in any solar stocks to this point and is doing further due diligence.
Meyer says the rate of renewable-energy buildout could slow as the industry tries to make sense of the Uyghur issue, but it won’t stop installations. Panels may rise in price, but he still thinks renewable energy will remain cost-competitive with fossil fuels.
“I don’t think this is going to dramatically alter the trajectory that we are on for the adoption of cleaner power,” he says.
Silicon Valley Exchange Lists First Two Companies In ESG Push
A stock exchange hatched out of Silicon Valley that’s taking on established rivals in New York and Chicago is listing its first two companies.
Twilio Inc., a $63 billion cloud-based software company, and Asana Inc., a work-management platform valued around $12 billion, will list their shares on the Long-Term Stock Exchange Thursday, LTSE said in a statement.
The exchange, led by Silicon Valley entrepreneur Eric Ries, caters to environmental, social and governance investing because of its stricter protocols and long-term approach. Backed by venture-capital firms, it won approval from the U.S. Securities and Exchange Commission in 2019.
“When we work with companies, we help them understand they will win the public trust and gain access to ESG investors and others that are looking for a signal that this is what they should invest in,” Ries said in an interview.
Companies on the new exchange agree to abide by listing standards. Among them are requirements to publish information on strategic planning and to align executive and board compensation with performance. Twilio and Asana, which are also listed on the New York Stock Exchange, have executives who were early investors in LTSE, Ries said.
“Creating long-term value for all of our stakeholders has been a part of Twilio’s DNA since day one,” Jeff Lawson, co-founder and chief executive officer of Twilio, said in the statement. “Dual listing on the Long-Term Stock Exchange is a natural extension of that commitment.”
LTSE is the 14th U.S. national stock exchange, with most owned by New York Stock Exchange parent Intercontinental Exchange Inc., Nasdaq Inc. and Cboe Global Markets Inc. Unlike the NYSE, the new exchange doesn’t have a physical trading floor.
ESG Accounting Requires Accountants
A simple story is that investors want to buy stocks and bonds from good companies, companies in strong financial positions, companies with high revenues and low expenses and lots of valuable assets. The way to tell that a company has high revenues and low expenses and valuable assets is by looking at its financial statements, which helpfully list its revenues and expenses and assets and liabilities.
Obviously unscrupulous people might start companies and lie on those financial statements, because then they could raise a lot of money and keep it for themselves. Or they might not lie exactly, but instead use odd accounting choices to make their financial position look better than it is.
So there is a whole profession of auditing, which is basically in the business of examining companies’ financial statements, making sure that they conform to generally accepted accounting principles and certifying to the investing public that they are more or less true.
Sometimes Auditors Get This Wrong, But Generally Investors Trust Auditors Enough That:
(1) financial statements audited by reputable accounting firms, particularly the “Big Four,” are generally considered to be more or less true and
(2) financial statements that aren’t audited are often viewed with some suspicion.
Traditionally the main thing investors were assumed to want, from a company, was a strong financial position, so the audited financial statements mattered a lot. But of course investors want other things.
One thing they want is strong growth prospects, which is not really something that is reflected in audited historical financial statements; audited financials matter a lot less to hot startups looking to raise venture capital than they do to mature industrial companies looking to sell bonds. Another thing they want is just, you know, meme-y stuff. You don’t need an auditor to tell you if a company’s chief executive officer is fun on Twitter.
These days investors also care a lot about environmental, social and governance factors. These things are not particularly reflected in financial statements. But they could be! Or, I mean, they could be reflected in other statements. ESG statements, I guess. The thing about ESG is that it has some of the same issues that require auditing of financial statements.
* Investors want companies with good ESG positions, companies that don’t pollute a lot and treat employees well and so forth.
* Unscrupulous people might lie about how much they pollute, etc.
* Or they might just use different methods of accounting for their pollution, etc., to make their own performance look good.
* It would be nice to standardize how companies report ESG data, and to have some authority figure to check it and vouch for it.
ESG stuff largely seems factual, measurable, reportable, but the measurement and reporting are not yet standardized in the way that financial reporting is. That creates an opportunity for people who are in the business of standardizing and certifying corporate measurements and reports.
Here Is A Fun Financial Times Article About The Opportunity:
* Now the Big Four accounting firms are jumping on a bandwagon that offers two tempting opportunities: an expansion of what companies must account for, and a chance to rebrand a scandal-plagued profession as experts on climate change, diversity and winning consumers’ trust. …
* The Big Four are responding in part to a rise in clients’ budgets for developing net zero emissions plans and other sustainability initiatives. Tracking nonfinancial metrics such as companies’ carbon footprints, and not simply their financial results, gives them a chance to generate more fee income and improve profit margins.
* The introduction of standardised ESG reporting metrics for companies would also create more work for accountants. This will potentially be facilitated by the proposed International Sustainability Standards Board, a body that could be created by November to mirror the role the International Accounting Standards Board plays in setting financial reporting standards.
It is not every day that the accounting profession gets a whole new category of thing to account for. Like if you are an accountant right now you pretty much audit the balance sheet and the income statement and the cash flow statement, and if you were an accountant 50 years ago you pretty much audited those same three statements.
But in 10 years it is not implausible that accountants will be auditing those three statements plus the statement of carbon emissions and the statement of workplace diversity and who even knows what else. There could be, like, twice as much accounting as there is now! Assuming that they seize the opportunity right away and get everyone to think “we need to reduce our carbon emissions, better hire an accountant.”
Companies Are Tallying Their Carbon Emissions, But The Data Can Be Tricky
Microsoft, other companies use difficult-to-measure information about suppliers and customers to reach emissions totals.
Microsoft Corp. has halved its greenhouse-gas emissions—with a wave of a calculator.
In 2017, the software company said it was responsible for 22 million metric tons of carbon. Since then, the 2017 number was reduced to 11 million metric tons. The annual total remained at 11 million for the 12 months ended in June 2020.
Numbers like these are taking on increasing importance as businesses face investor and regulatory pressure to disclose their total carbon emissions.
These include emissions from the company itself, plus its suppliers and customers. The latter two are especially tricky to calculate, and account for Microsoft’s new numbers.
The company changed its estimates of how much carbon dioxide its suppliers and customers had emitted in producing and using its products. Its first stab at the tally, reported in 2017, did note that the estimates might be “under- or over-reported by as much as 50 percent.”
Elizabeth Willmott, Microsoft’s carbon-programs director, said the company “doubled down on driving accuracy” in calculating its emissions. The change came last year after Microsoft said it would become carbon negative, meaning it would remove more carbon dioxide from the atmosphere than it emits, by 2030. “We will continue to see—and be transparent about—shifts in the reporting as our methodologies improve,” the statement added.
The Securities and Exchange Commission is among a number of regulators world-wide planning to require companies to report climate-risk information. That could include “metrics related to greenhouse-gas emissions … and progress toward climate-related goals,” SEC Chairman Gary Gensler said in a speech in July.
One problem facing regulators and companies: Some of the most important and widely used data is hard to both measure and verify.
The supplier and customer carbon data that Microsoft recalculated are known as Scope 3 emissions—greenhouse gases related to a company’s products but outside its direct operational control. In Microsoft’s case, it might be the carbon produced to make the parts for an Xbox or to power the game console when someone plays it.
They often make up the lion’s share of an entity’s carbon footprint. In Microsoft’s case, Scope 3 gases made up 97% of its total emissions for the fiscal year ended June 2020, company data show.
“The measurement, target-setting, and management of Scope 3 is a mess,” said Anant Sundaram, a finance professor at Dartmouth College’s Tuck School of Business. “There is a wide range of uncertainty in Scope 3 emissions measurement … to the point that numbers can be absurdly off.”
Many companies don’t calculate Scope 3 at all. Those that do are generally forced to rely on estimates and assumptions. Likely holes in the data include suppliers who don’t measure their emissions and estimates of employees’ commuting patterns and how exactly customers use and then dispose of the products.
Apple Inc. shows a range of numbers for its annual carbon footprints for 2015 through 2020. This reflects the “potential variances inherent to modeling product-related carbon emissions,” the company said in its latest environmental report.
Apple last year said it had obtained more accurate data for the amount of electricity used to manufacture a number of components. The effect was to increase its 2019 carbon footprint by 7%, the company said.
A spokeswoman for Apple said “we update our climate models every year based on better data.”
Scope 3 numbers may rely, at least partly, on outdated numbers.
Consumer giant Procter & Gamble Co. used numbers dating back to 2016 and 2017 to work out some elements of its Scope 3 emissions for the fiscal year ended June 2020. The old data related to emissions from fuel and energy activities, employee commuting and capital goods, according to its environmental report.
The company focused on updating other categories of emissions that between them accounted for 99% of the Scope 3 total, its report said. A P&G spokesman said the earlier estimates were used for areas that “are less material to our footprint.”
Public companies are required to use an external auditor to check their financial statements are accurate and conform to accounting standards. The SEC could impose a similar discipline on green data, for example by saying it must be reported as part of a company’s audited filings.
That could prove challenging for a lot of companies, based on the current state of voluntary verification of climate data.
The CFA Institute, which represents chartered financial analysts, said in a July letter to the SEC that much of the environmental, social and governance, or ESG, information reported by companies is collected sporadically and presented inconsistently. That “makes assurance, let alone the usefulness of such data, suspect in many cases,” the letter said.
Just over half of the S&P 500 index of big U.S. public companies, or 264 companies, use an outside firm to verify at least some of their ESG numbers, accounting-industry group the Center for Audit Quality said in a report last month.
McDonald’s Corp. said in a report last year it is “waiting for more mature verification standards and/or processes” before getting any of its climate data assured. A McDonald’s spokeswoman said the company is “continually working to evolve [its] data collection and accounting system and utilize best practices, including [the] potential for future assurance or verification activity.”
ESG vetting is generally less rigorous than the external audits required for financial reporting.
Only certain reported items are verified—and that may not include Scope 3. For those numbers that are checked, the auditor will typically only say there was no evidence the numbers are wrong. It won’t offer assurance they are actually right.
There is no set standard for how climate data should be verified, or by whom. Most of the S&P 500 companies that got climate data verified employed an engineering or consulting firm, rather than an accounting one, the Center for Audit Quality report said.
Wall Street’s ESG Loans Charge Corporate America Little For Missed Goals
Banks and borrowers are rushing to add sustainability targets to loans, yet for many deals the incentives are all but meaningless.
When American Campus Communities Inc. announced the signing of a $1 billion sustainability-linked credit line in May, its executives decided to take a victory lap.
For the first time, they said, the company was tying its borrowing costs to targets ranging from improved energy efficiency to workforce and boardroom diversity. The largest owner of college apartments in the U.S. even put out a press release touting its commitment to environmental, social and governance goals.
What the statement didn’t say was that the financial incentives embedded in the loan were largely meaningless. American Campus Communities faced no extra cost for failing to achieve its ESG targets, and would save only one one-hundredth of a percentage point in interest — a mere $100 a year for every $1 million drawn — if it met all of its goals.
And this, it turns out, is hardly the exception in the ESG loan business.
A Bloomberg analysis of over 70 sustainability-linked revolving credit lines and term loans arranged in the U.S. since 2018 shows that more than a quarter contain similar provisions: no penalty for falling short of stated goals, and only a minuscule discount if targets are met. Other companies that have widely publicized similar arrangements, including JetBlue Airways Corp. and Prudential Financial Inc., declined to disclose details of their loans.
As corporate America grapples with growing scrutiny of its ESG efforts, firms are increasingly turning to Wall Street to help burnish their credentials. Yet critics say more and more companies are presenting overly polished images of both their commitments and results. The findings suggest that while bank loans offer corporations one of the easiest avenues to access ESG financing, the path is also one of the least ambitious.
“It’s just disingenuous,” said Peter Schwab, a portfolio manager at Impax Asset Management, one of the largest money managers dedicated to sustainable investments. “There is really no material financial impact. I don’t know why some companies even bother.”
American Campus Communities attributed the terms of its deal to the firm being an “early adopter” in the sustainability-linked loan market, and said its public comments ensure the company is held to account by lenders and shareholders for its ESG commitments.
“Ultimately it’s really lender driven,” Ryan Dennison, the firm’s senior vice president for capital markets and investor relations, said of the pricing adjustments the company secured. “We could either do nothing, or we could do something and express some of our ESG goals and work toward those.”
Sustainability-linked loans aren’t to be confused with so-called green bonds that have swept global finance in recent years — and which face significant skepticism in their own right.
For one, the loans don’t restrict what companies can do with the funds. Instead, lenders agree to tie interest rates to certain ESG metrics. Corporations, in theory, stand to benefit from lower borrowing costs if they meet their goals, and face penalties if they fall short.
Banks also tend to keep revolving credit facilities on their balance sheets rather than distribute the risk to investors. Companies can tap them as needed, though they often leave them undrawn for years.
It’s a relatively novel form of financing, especially in the U.S. About $93 billion of sustainability-linked loans have priced this year, or seven times the $13 billion arranged in all of 2020. Still, it’s only a fraction of the nearly $1.5 trillion of loans syndicated in the U.S. year-to-date, according to data compiled by Bloomberg.
Some industry watchers expect economic incentives to get more aggressive as the market develops. And to be sure, certain firms use them as part of a wider array of tools to help achieve (and convey to investors) their environmental and social objectives.
But in other cases, sustainability-linked loans have seemingly become a way for companies to tout their ESG bona fides while risking the absolute bare minimum, potentially adding to concerns about so-called greenwashing that have emerged in other areas of sustainable finance and attracted scrutiny from regulators.
Bloomberg used public filings and information obtained from companies to analyze 77 revolving credit facilities and term loans that included sustainability adjustments.
About 40% of the borrowers agreed to pay a penalty of five basis points if they failed to meet their targets in exchange for a five basis point discount if they achieved their goals — a total swing of 10 basis points.
A pair of borrowers, Millicom International Cellular SA and Diana Shipping Inc., set the adjustments at 10 basis points in either direction.
At the opposite end of the spectrum, more than a quarter of firms had incentives that amounted to a single basis point if they drew their revolvers, like American Campus Communities did. When credit lines remain untapped, sustainability adjustments either don’t apply or amount to one basis point at most.
“Most of the pricing adjustments upward or downward are tiny,” George Serafeim, a professor at Harvard Business School who focuses on corporate performance and social impact, said via email. “It seems to me more a symbolic gesture rather than a serious effort to price and embed in the contract climate risk.”
How Wall Street Is Gaming ESG Scores
A good rating doesn’t necessarily mean your investment is doing much good.
There are vast inconsistencies between the stated climate objectives of money managers and “the reality of their investments.”
While perhaps an unsurprising statement given all the reporting on Wall Street greenwashing, this conclusion by Paris-based business school EDHEC is tied to a more nuanced assessment of strategies behind climate-focused funds. While asset managers talk at length about the use of climate data to construct their ESG portfolios, many funds aren’t run “in a manner that is consistent with promoting such an impact,” EDHEC academics wrote in a 65-page report entitled “Doing Good or Feeling Good? Detecting Greenwashing in Climate Investing.”
The findings add to a growing body of research questioning the climate and ESG-related credentials of this burgeoning corner of the asset management industry. Regulators in the U.S. and Germany have started separate investigations into potentially misleading investment products touting their environmental, social and corporate governance bona fides.
With supercharged hurricanes, massive floods and unprecedented wildfires sweeping the globe, it’s well past time for asset managers to start doing the right thing, said Felix Goltz, a member of the EDHEC-Scientific Beta research chair that compiled the study. But when one digs into how most of the largest climate funds are truly invested, one finds very few differences relative to major market benchmarks like the Standard & Poor’s 500, he said.
“Even though investors and managers communicate extensively about the use of climate data to construct their portfolios, these data points represent at most 12% of the determinants of portfolio stock weights on average,” Goltz said.
Looked at another way, this means that 88% of what guides a climate fund is what you’d find behind any other, non-green investment.
Questions about exaggerated claims abound, since the vast majority of funds claiming adherence to net-zero investment strategies are subject to “large and obvious greenwashing risks,” Goltz said.
One of those risks is the temptation to game the system so as to earn better scores rather than truly make a difference. Money managers, along with regulators, should reassess the investment standards and practices in the area of climate alignment, Goltz said. Funds need to go beyond displaying the “green scores” of their portfolios and instead invest in stocks “in a way that provides incentives for companies to act on climate change.”
To promote true alignment with climate objectives, rather than avoiding utilities altogether as a way of enhancing a green score, fund managers should put pressure on those industries to invest in technologies that can drastically reduce greenhouse gases, he said.
This requires “highly selective, intra-sector capital allocation that favors climate change leaders,” Goltz said.
He added that the current system doesn’t reward companies that take active steps to decarbonize as much as it rewards them for non-environmental factors—such as financial results or performance on social and governance criteria unrelated to climate change.
“We need capital to invest in innovation to make the green economy possible. We need money managers to engage with companies, but in an effective way,” Goltz said. Otherwise, corporate executives “won’t perceive any incentive to make their firm greener.”
The EDHEC study also found that fund manager climate strategies almost always “completely ignore whether or not a company has improved its climate performance,” Goltz said. The fact is investors frequently increase their holdings in shares of companies with worsening climate performance, he said.
If asset managers want to make a positive contribution, what’s required are drastic changes in portfolio construction, Goltz said. The industry currently uses “climate strategies that look very close to traditional weighted strategies,” he said.
For example, nine of the 10 largest holdings in the $22.5 billion iShares ESG Aware MSCI USA ETF (Ticker: ESGU@US) are the same as the biggest-weighted companies that make up the S&P 500.
As money managers pursue climate objectives, their influence in helping the environment is currently minimal. “Achieving large portfolio-level carbon metric improvements is attractive for product marketing, but it isn’t guaranteed to translate into meaningful real-world impacts,” Goltz said.
Cliff Asness Urges Investors ‘Short Your Way’ To Greener Future
Quant pioneer says bearish strategy is vital in compelling companies to act responsibly.
Climate-conscious investors tend to buy green stocks or build big stakes in less-responsible companies and aim to persuade them to change. They should also be short sellers, according to quant pioneer Cliff Asness.
Betting against stocks with high carbon emissions is vital for expressing an investor’s views, hedging against climate-change risks and actually affecting corporate policies, the co-founder of systematic powerhouse AQR Capital Management wrote in a Tuesday blog post.
The booming universe of sustainable funds typically puts money in shares with higher environmental, social and governance ratings and shuns those with bad grades. Actually shorting the latter is far less common — partly because it’s unclear how such positions should be counted in a product’s ESG score.
It’s a topic of “tremendous confusion,” according to Asness.
“The proper treatment of shorting matters for the ultimate goal of responsible investing: to effect change,” he wrote. “Shorting has impact by dissuading companies from pursuing whatever is objectionable to the short community in aggregate; in this case, carbon emissions.”
How to incorporate bearish bets into ESG metrics may seem an esoteric point. But while research into the influence of short selling is patchy, studies generally suggest it can have a positive disciplinary effect and an impact on operating performance and corporate social responsibility.
According to Asness, shorting is also necessary for building portfolios with net zero carbon emissions since it’s nearly impossible to achieve that with just long positions. They should be used like carbon offsets to help cancel out any carbon exposure, he said.
Greenwich, Connecticut-based AQR had attracted about $1.5 billion to its net-zero funds as of the end of June, Asness wrote.
This isn’t the first time the godfather of quant investing has weighed in on the asset-management industry’s hottest bandwagon. In 2017, he went against the usual ESG sales pitch by arguing that by definition excluding bad stocks must lead to inferior performance.
By staying away from a polluter, the sustainable investor succeeds in raising its cost of capital, the flip side of which is higher returns for the less-conscientious fund that buys the stock, he said.
Credit Suisse ESG Head Wants ‘More Pressure’ On Rating Firms
Credit Suisse Group AG’s sustainability chief added his voice to a growing chorus of industry professionals calling for the regulation of ESG ratings.
Daniel Wild, global head of ESG strategy at the Zurich-based bank, says there’s currently inadequate oversight of the firms that grade businesses on their environmental, social and governance metrics. Neither the data the ratings firms use nor the approaches they take are clear, he said.
“It makes a lot of sense to put more pressure on the quality of these ratings, on the transparency of the ratings,” Wild said in an interview. “At least you want to know why a rating ended up where it did, and what their underlying assumptions were.”
The market for ESG products has ballooned to over $35 trillion, spawning a cottage industry of support services that offer analysis and rankings of the sustainability claims being made. Others besides Wild have questioned the lack of uniformity in ESG ratings. NN Investment Partners, which is being acquired by Goldman Sachs Group Inc., has warned of the “pitfalls posed by ESG ratings.”
The grades are used by the investment management industry to help figure out how sustainable an asset is. That’s as financial professionals grow increasingly anxious at the prospect of being caught greenwashing, which is the term given to inflated or false ESG claims.
Credit Suisse Chief Executive Officer Thomas Gottstein said ESG remains a “learning process” for many in the industry.
Speaking at Finance Forum Liechtenstein on Thursday, he also underscored the need to stay alert to the risks of greenwashing, given the myriad of definitions being used to classify sustainable finance products.
The Legal Fallout
“When you have such a level of discrepancies from one agency to another, it comes with issues, it comes with questions from clients,” said Clemence Humeau, head of responsible investment coordination and governance at AXA Investment Managers.
“It is an area where harmonization is needed,” she said.
Regulators have made clear they’re growing less tolerant of sloppy ESG labeling. That point was underscored last month as news spread that the investment unit of Deutsche Bank AG, DWS Group, was the subject of investigations in the U.S. and Germany. According to DWS’s former sustainability head turned whistleblower, Desiree Fixler, the firm inflated the value of its ESG assets. DWS has rejected the claims.
In a recent paper that examined scores given by a number of ESG ratings firms, co-authors led by Florian Berg, a researcher at MIT Sloan, said the information they provide is “relatively noisy.” Companies get “mixed signals,” making it difficult to improve, while investors “face a challenge when trying to identify outperformers and laggards.” Bloomberg LP, the parent of Bloomberg News, also provides ESG ratings but wasn’t included in the study.
The industry doesn’t contest the discrepancies among ratings, said Andy Pettit, director of policy research in Europe for Morningstar, the parent company of ESG ratings provider Sustainalytics. They reflect the different weighting that firms give to E, S and G factors, the different methods they use for doing so and different data.
“Sometimes it’s very quick to compare ESG ratings with credit ratings,” Pettit said. “There are fairly significant differences, both in that ESG ratings typically are offered on an investor-pays model and credit ratings on an issuer-pays, and also credit ratings have obviously been around for a long time and are very established processes in measuring exactly the risk of default, whereas ESG has got so many different factors that you come back to the point that some people put more emphasis on one of those factors than another.”
The European Securities and Markets Authority, which regulates credit rating companies, has already called on the European Commission to address concerns around the reliability of the ESG ratings market. The industry has so far unsuccessfully tried to regulate itself, with three major attempts over the course of more than a decade now “largely discontinued,” according to a November report by the commission.
ISS ESG, another ratings provider, says it welcomes any steps that bring transparency. But the unit of Institutional Shareholder Services also cautioned against introducing constraints that would make it hard for raters to keep pace with changes in the market.
Maximilian Horster, who heads ISS ESG, said it’s important to avoid “steps that would undermine the ability of the ratings and data providers to produce and deliver the independent and informed ESG research and analysis necessary to address a rapidly evolving ESG landscape.”
“We believe it is imperative that research providers develop and deliver their offerings with a high level of independence and transparency, given the importance of ESG ratings and data to investors,” Horster said.
According to Wild at Credit Suisse, regulations would help address some basic gaps. He says those using ESG ratings often don’t know whether the information behind the scores is reliable, which entails a number of risks. The Zurich-based bank estimates that just over 8%, or 133 billion francs ($145 billion) of its total assets met sustainability criteria at the end of June.
Even widely accepted metrics such as carbon emissions aren’t treated in a uniform manner, Wild said. “It sounds easy, a carbon footprint measurement,” he said. “But there is no standard how this has to be measured.”
“The underlying data needs to be controlled,” Wild said. “A credit rating is usually based on mostly financial indicators that are heavily controlled through accounting standards and so on. But that’s not the case for ESG information.”
Funds Go Green, But Sometimes In Name Only
Companies are turning their struggling funds green to capture the flood of cash into sustainable investments
Fund companies are rebranding their out-of-fashion investment offerings as green, hoping to grab a portion of the cash pouring into sustainable products. In some cases, the rebranding has been in name only.
Last year, companies that manage mutual funds and exchange-traded funds rebranded a record 25 funds as sustainable, according to Morningstar. They say these funds have adopted investment strategies that utilize data on companies’ environmental, social and governance performance to pick stocks. Since 2013, fund companies have rebranded 64 funds, which had $35 billion in assets as of June.
The American Century Fundamental Equity Fund is now the Sustainable Equity Fund, the USAA World Growth Fund is the USAA Sustainable World Fund and the Putnam Multi-Cap Growth Fund is now the Putnam Sustainable Leaders Fund. Assets for all three are up since the rebrandings.
Many of these funds are actively managed and were experiencing chronic outflows prior to rebranding, said Morningstar Head of Sustainability Research Jon Hale. “You have big fund companies with an inventory of funds, a lot of which aren’t really attracting assets anymore, saying ‘OK, here’s this new investment trend happening; what do we do?’” Mr. Hale said.
The shift is akin to a car company freshening up a tired model. Actively managed funds, which are run by stock pickers, have been losing investor cash for years. Similar funds with a sustainable label have been raking in money, according to Morningstar.
Of the 64 rebranded funds, 35 were suffering from investor withdrawals in the three years before they went green, according to a Wall Street Journal analysis of Morningstar data. At 13 of the funds, investors began putting in cash again. At 45, new cash plus the rising stock market have boosted overall assets.
The $1.5 billion USAA Sustainable World Fund holds nearly $100 million in shares of 47 fossil-fuel companies, according to data from shareholder advocacy group As You Sow, the most of any repurposed fund. Last year, Victory Capital Management Inc. changed the fund’s name from USAA World Growth Fund.
A disclosure was added to the fund’s prospectus noting ESG ratings are considered but fund managers may disagree with a raters’ conclusion. The Sustainable World Fund continued to hold shares of companies such as mining firm Rio Tinto PLC and purchased shares in oil-and-gas companies after rebranding.
“We believe incorporating ESG considerations into a portfolio should be an input under a larger mosaic of considerations any manager evaluates to achieve a well-balanced, diversified portfolio,” said Mannik S. Dhillon, president of VictoryShares & Solutions, an investment adviser for USAA.
Investors had been pulling cash out of American Century Investment’s Fundamental Equity Fund for years before its 2016 rebranding. Three years later and under a new name, the Sustainable Equity Fund brought in a net $1.7 billion.
“To us, that was an affirmation that we made the right changes,” said American Century Vice President Joe Reiland. “The performance was getting better, the investment community was more interested in investing sustainably and it made us more marketable to clients.”
The fund beat the S&P 500 over the past five years and boasts its portfolio companies emit 67% fewer greenhouse gases than the index, according to the fund’s sustainability report. The fund dumped shares of 12 firms during the transition including Exxon Mobil Corp. while adding electric-vehicle maker Tesla Inc.
It kept ConocoPhillips, even though it is a big greenhouse-gas emitter, because it was shifting more toward sustainability, Mr. Reiland said. “After analyzing the two, ConocoPhillips was demonstrating the ability to become an ESG leader over Exxon,” Mr. Reiland said.
Other companies frequently dumped by rebranded funds were oil-and-gas producer Devon Energy Corp. , tobacco firm Philip Morris International Inc. and aerospace companies General Dynamics Corp. and Boeing Co., according to a Journal analysis of constituents of 43 funds with historical data.
Rebranded funds typically bought tech companies such as chip maker Texas Instruments Inc. and software maker Cadence Design Systems Inc. One reason sustainable funds have done well is because technology companies have trounced energy stocks in the past few years. Nearly 70% of 286 sustainable funds ranked in the top half of their performance category last year, according to Morningstar.
Assets in Putnam Investments’ Putnam Multi-Cap Growth and Multi-Cap Value funds were hovering near their lowest point since the early 2000s when the company rebranded both funds.
Assets of the rechristened Putnam Sustainable Leaders Fund rose by 66% to $6.5 billion as of this June. The Putnam Sustainable Future Fund grew its assets by 93% to $649 million, according to the Journal’s analysis. Both funds have outperformed their benchmarks and the S&P 500 in the past three years after periods of mixed performance prior to rebranding.
The Sustainable Future Fund underwent the most dramatic change, shifting 75% of its portfolio to focus on sustainable firms, according to Putnam’s head of sustainable investing, Katherine Collins. “There are a wide range of approaches that folks are taking in developing sustainable funds, and for Putnam it was pretty far into the heavy-lift side of things.”
Stocks in energy firms like ConocoPhillips were dropped, and renewable-resource firms were added such as solar-panel maker Sunrun Inc., which was a top contributor to the fund’s 2020 performance.
“We’re happy not just with the numbers but with how those numbers have been generated,” Ms. Collins said.
BlackRock Fails To Name Palm Oil Giant Destroying Forests And Violating Rights Of Indigenous People
Destruction in an African rainforest and complaints from local residents show the challenges of monitoring companies.
In the impoverished West African country of Liberia, a unit of the world’s second-largest palm oil company has admitted to destroying forests and violating the rights of indigenous people. Yet its parent is among the industry’s leaders in investor ratings for environmental and social policies.
Golden Agri Resources Ltd. acknowledged in February that its Golden Veroleum Liberia (GVL) unit hadn’t done enough to compensate local residents for business practices that included razing part of one of the planet’s richest biodiversity regions. Among the company’s shareholders is BlackRock Inc., the world’s largest asset manager, whose chairman Larry Fink has made combatting climate change a focus for the $9.5 trillion of assets his firm manages.
Part of Golden Agri’s attraction for investors is that it tops a global list of more than two dozen agricultural producers and wholesalers for its environmental efforts, and ranks fourth on social-related issues, according to data compiled by Bloomberg. And while the industry’s performance as a whole isn’t good — Golden Agri rose to the top of the environment chart with a score of only 4 out of 10 — it makes the company the best of the pack for investors that need to keep a diverse portfolio.
“This is an example of a common problem with ESG ratings,” says Andrew King, professor of management at Boston University’s Questrom School of Business, who focuses on ESG measurement and corporate sustainability. “Their inaccuracy can protect bad actors by impeding pressure for real improvement.”
It also shows the difficulty investors and activists face in tracking and bringing to book wayward agricultural enterprises that often operate through units or joint ventures in remote, poor areas of the world.
The controversy surrounding Golden Veroleum surfaced three years ago when Friends of the Earth and the Sustainable Development Institute Liberia filed a complaint with the High Carbon Stock Approach, a body set up a decade ago by Golden Agri and environmental groups to develop a scientific way of evaluating tropical forests to curb deforestation and protect the rights of local people. HCSA’s members now include some of the world’s biggest food producers such as Unilever Plc and Cargill Inc.
Activists for the environmental groups had visited the area around Wiah’s Town, a ramshackle group of some 100 tin-roofed buildings strung along a red-dirt road an hour’s drive from the coast. Inhabitants say GVL promised to provide jobs and amenities such as piped water, but instead the company cut down the forest, deprived farmers of their land and polluted the water supply.
“GVL cleared the land of the Lower Kulu people called Blogbo land without our consent,” says Russels Kumon, 67, a retired teacher who returned to Wiah’s Town a few years after his country’s second civil war ended in 2003. “The whole place has been enclaved. We are just in the enclaved area, making farming and any other things difficult for us. The land has been destroyed.”
Looking up at the palm oil mill, belching out smoke, he says the factory was built on a sacred hill, Tarhuowon, that members of the community used to climb to rectify ailments. GVL said there was no indication from local representatives that the hill was sacred when it erected the plant.
Few of the expected jobs materialized, Kumon says. Several of those who are employed in the mill and plantation complained to Bloomberg of low wages and arduous working conditions, with some saying they work seven days a week for $150 a month.
Further down the road, in the village of Butawu, 48-year-old electrician Othello Jartoe says the palm oil grower constructed just one hand pump, to be shared by more than 100 people, while he and others were laid off by the company after a year. “The minority is employed and the majority is unemployed,” he says.
The High Carbon Stock Approach has a system to investigate such complaints and in February it concluded that GVL failed to conduct a proper consent process with local communities before clearing land and setting up its operation, and hadn’t done enough to remediate the misconduct and compensate residents.
HCSA said the palm oil company must halt land development until conflicts with communities are resolved, provide new biodiverse forest and adopt policies to prevent further rights violations.
But restoring rainforest biodiversity is difficult if not impossible. GVL operates in the Upper Guinean forests, which span six West African nations, from Guinea in the west to Togo in the east. Only about 20% of the original forest remains — about half of it in Liberia — and it is considered a vital carbon sink and a world biodiversity “hotspot,” with an estimated 390 terrestrial mammal species, or more than a quarter of all those in Africa.
“The region is a mosaic of forests interspersed with villages, and as such is more vulnerable to deforestation than other regions such as the Congo,” says Wannes Hubau, associate professor of tropical forest ecology at Ghent University in Belgium. “Its accessibility is hastening the switch from being a carbon sink to releasing carbon dioxide.”
GVL said in a Sept. 7 response to queries from Bloomberg that it had made “mistakes” and had stopped clearing land in February, though it denied many of the allegations leveled by local communities.
Singapore-listed Golden Agri, part of the Sinar Mas Group of the billionaire Indonesian Widjaja family, said in a statement that GVL has suspended further land development and implemented some other recommended measures, including drawing up a sustainability plan. Liberian Information Minister Ledgerhood Rennie referred queries to the company and didn’t comment further.
Since the HCSA ruling, Friends of the Earth said that local communities hadn’t been consulted about the sustainability plan. GVL said it has consulted communities, investigated complaints when they were made, followed the law with regard to land acquisition and met the water quality standards of the nation’s regulator.
For investors, the resolution of cases like the one in Liberia and better oversight of operations, especially in developing countries, is critical if ESG investing is to be meaningful.
A group of more than 60 indigenous leaders and activists from six continents wrote to BlackRock executives in March, saying the asset manager can’t turn a blind eye to the destruction of the Upper Guinean forests and similar ecosystems in South America and Southeast Asia.
“Climate change isn’t simply a risk to be calculated in terms of profit margins,” they wrote. “It is a constant stream of risks to our peoples and our planet, which we face every day.”
BlackRock holds only about 0.7% of Golden Agri and is one of several dozen banks, investment firms and pension funds that have small stakes in the grower. Officials at Vanguard Group, which held about a 1.3% stake in Golden Agri as recently as late August, declined to comment about its investment.
Blackrock said in March it will press companies on their environmental and human rights policies, and those that fail to properly oversee the use of natural resources “may face negative consequences arising from regulatory, reputational or operational risks.”
BlackRock, without disclosing the company’s name, said in a quarterly stewardship report in May that it had engaged with a Singapore-listed palm oil producer and its unit in Africa to discuss environmental and social controversies related to that business. It referenced HCSA’s February report and said it was told about remediation steps the unnamed company had taken and that it had commissioned a third party to investigate the extent of deforestation.
The palm oil company told BlackRock that HSCA is still determining the amount of compensation for the cleared forests and acknowledged the lack of progress in providing remediation to the communities. The pandemic had delayed the process and the review had resumed in March, the company told BlackRock.
“We expect the company to continue paying attention to the environmental and social controversies signaled in HSCA’s report and work towards resolving them,” BlackRock said in its report. A BlackRock spokesman declined to name the company.
At the heart of the problem for investors are the ESG scores, which are largely based on self-reported and unaudited information, lack consistency between ratings providers, and emphasize corporate policies and processes rather than impacts.
Even within those limits, many of the world’s top agricultural producers and wholesalers score poorly. Golden Agri has spent years trying to build an image as a producer of sustainable palm oil and topped the environmental list in 2019 after its rating rose to 4 from 0.9 in 2015, data compiled by Bloomberg show.
The poor showing of the plantation owners and food companies shows how much more needs to be done to protect the rights of individuals and preserve some of the earth’s most important carbon stores.
About 20% of Liberia’s tree cover has vanished during the past two decades, releasing about 1 gigatonne of carbon dioxide into the atmosphere during that period, according to Global Forest Watch. That’s the equivalent of greenhouse gas emissions from 217 million passenger cars driven in one year. The World Bank forecast in July that the global economy risks losing as much $2.7 trillion a year by 2030 if countries continue to destroy biodiversity.
“If you promised to do something and you did it only halfway, to me you have done nothing,” says Jartoe in Butawu village.
Indonesia’s Halt To Palm Oil Expansion Is Set To Expire Soon
Indonesia’s moratorium on new oil palm plantation permits is set to expire this week as the industry awaits clarity on whether the government will extend the policy.
President Joko Widodo ordered a stop to permit issuance for new plantations and expansion of existing ones for three years in a decree signed Sept. 19, 2018. That order expanded on an earlier ban on permits for plantations on primary forest and peat land.
As palm prices surge almost 50% in the past year due to tight supply, the government has given few signs on whether the moratorium would remain. The breakneck expansion of plantations through Southeast Asia has come at the expense of vast swathes of tropical rainforest.
An extension could lead prices to climb higher as there’s been slow replanting of old oil palm trees, said Christopher Andre Benas, an analyst at RHB Sekuritas.
Since the moratorium, the government has found about 3 million hectares of palm oil plantation operating without permits in forest areas. The Southeast Asian country has identified about 16.4 million hectares of land planted with the crop, of which 6.72 million hectares belong to smallholders.
Crude palm oil production is set to rise but land expansion could grow slower as existing plantations take advantage of their land bank, said Sathia Varqa, owner of Palm Oil Analytics in Singapore. He expects Indonesia’s output to rise by 2 million tons to 48 million tons this year as production increases in frontier areas like Kalimantan. The policy makes a difference in deforestation if it’s well implemented, he added.
ESG Issues On The ‘Mind’ Of The Muni Market’s Regulator
The head of the $4 trillion municipal securities market’s regulator said the explosion of environmental and socially minded investing is an area it’s watching closely.
Mark Kim, chief executive officer of the Municipal Securities Rulemaking Board, said in an interview that the board is focused on the quickly growing environmental, social, and governance sector of the market.
And he said it’s possible that the U.S. Securities and Exchange Commission could start looking at it as well after its chairman, Gary Gensler, said this month that he’s asked his staff to look into ways to bring transparency to asset classes like municipals.
“ESG is going to be one of the issues that will be on our mind and will be on the mind of the SEC as well when it comes to the municipal securities market,” said Kim, who took his post last year. He said the MSRB is interested in the issue from the point of view of disclosure.
ESG was one of the areas mentioned in the MSRB’s strategic plan it’s releasing Monday, which will guide its activity for fiscal 2022 through 2025. The plan outlines goals, such as modernizing its rulebook and using data to strengthen market fairness.
ESG investing has grown in popularity in the muni market as it has in other asset classes. Sales of green muni bonds remain strong, with more than $10 billion sold in 2021, and some investment firms have debuted funds focused on sustainable investments.
But municipal issuers still aren’t disclosing enough information around risks, such as those related to the environment, according to a July report by Principles for Responsible Investment, a United Nations-backed group that promotes sustainable investing.
The MSRB’s strategic plan says the regulator will “coordinate with regulatory and industry efforts, promote dialog and use MSRB data to inform the market’s understanding of environmental, social and governance (ESG) factors and emerging issues.” Kim said the MSRB plans to issue a request for information before the end of the year to get feedback from members of the industry on the topic.
The MSRB’s strategic plan also says the regulator has a commitment to “diversity, equity and inclusion” and mentioned the importance of seeking diverse perspectives when coming up with its rules.
Kim said that starts with the MSRB’s governance, and said he’s proud that women make up two-thirds of its new board starting in October. It’s partnering with the Financial Industry Regulatory Authority on an initiative to better understand the challenges facing minority- and women-owned businesses in the industry and if there are any “undue” burdens that MSRB rules place on them, he said.
“This is a really important question — it’s one that we’re going to engage on directly with market participants, and we’re also partnering with our fellow regulators to address this issue more systemically across the entire financial services industry,” Kim said.
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