Is an ESG label worse than nothing?
How do you Fancy ESG? - Tariq Fancy, the former CIO of sustainability investing for Blackrock, has penned a lengthy essay with his perspective on the shortcomings of ESG investing. His conclusion is that investing in ESG is almost worse than if it didn't occur, as investors and asset owners feel like they are making progress, when they really aren't. His principal concern is that incentive alignment will always put profit over social or environmental needs, and policy is the most important requirement to change this, not capital markets.
Et tu DWS? - In a similar vein, Desiree Fixler provides an in-depth look at her journey at DWS, where she was hired to be head of ESG. After reviewing DWS’s products and processes, she informed senior management that they weren't actually doing what they were telling investors they were doing. She was fired the day before DWS produced its annual report, further claiming they were a leading ESG investor. No doubt Tariq Fancy would point to this as exhibit A in his criticism. And now the SEC is investigating DWS.
Even some academics agree - NYU professor Aswath Damodaran has updated his criticisms of ESG, with the view that it is subjective (therefore difficult to measure), limited proof it will lead 'good' companies to outperform, is marketed with inconsistent logic, and also serves as the 'outsourcing' of moral responsibility. His conclusion: "more than ever, I believe that ESG is not just a mistake that will cost companies and investors money, while making the world worse off, but that it creates more harm than good for society."
A rebuttal to the ESG naysayers: With so many critical comments coming from the proverbial 'choir' of ESG believers, Morningstar penned an article acknowledging ESG is not a cure-all silver bullet, but highlighting that the criticisms aren't entirely valid, as they are often backward-looking. Furthermore, the role of ESG to help identify and manage risk (or opportunity) is an investment factor that isn't well appreciated or always priced in. This may help explain why highly-rated ESG companies continue to outperform.
ESG’s critics aren't all wrong. ESG-oriented investing is still relatively nascent and it is evolving quickly. Metrics and targets remain heterogeneous across companies and are often difficult to measure. But earlier today, Carlyle, CalPERS and other GPs and LPs collectively representing $4tn in assets, have announced a plan to standardize ESG reporting.
Regulation continues to gain momentum: SFDR has been in place for 6 months with EU managers having to declare their products “dark green”, “light green”, or “grey” (not-ESG focused). Starting in July next year, they will have to back this up with quantifiable data. With the UK leaving the EU, managers in London without EU investors have a different requirement. However, the FCA has provided guidance that analogous reporting for environmental issues will be required (largely mirroring TCFD). The US isn't far behind, with the SEC reviewing ESG guidance under Gary Gensler, and the regulator anticipates having updated recommendations ready in October or November this year. 2022 is shaping up to be the year of ESG data across the globe.
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A secular shift towards a more responsible capitalism is underway. Impact Delta is a specialist consultancy founded to help investment firms capitalize on this shift. We believe good environmental and social thinking helps investment firms raise capital and earn better returns. More about us here.