Market Trends

Sustainable investing: a fad or here to stay?

ESG (environmental, social, and governance) investing is a hot topic, with firms such as BlackRock discussing the urgent need to arrest global warming, a comment issued following the devastating Australian bush fires. Support for environmental resolutions from shareholders in the first six months of 2020 was an average of 32.7%, up from 21.9% in 2019 according to Proxy Insight. The prospect of financial hit from climate change is pushing many investors to change their attitude towards ESG investing; climate change has the potential to destroy $69 trillion in global economic wealth by 2100.

Moves towards sustainable investing

There have been warnings from the likes of Mark Carney, former governor of the Bank of England, of big investment risk due to “stranded assets” — where investors’ holdings become unsellable because of climate change. The change in mind-set of investors can be seen in a survey from EY, in which only 2% of investors currently conduct “little or no review” of companies’ non-financial disclosures. This is a stark change from 2013, when one out of every three investors told the accounting giant they were ignoring ESG data. With more than 450 asset managers, and $40tn in assets, having now signed up to an initiative called Climate Action 100+ to force the world’s biggest carbon emitters to tackle global warming, it is clear sustainable investing is coming to the forefront of many investors’ minds. 

The impact of the pandemic

Many have been pointing to the success of ESG investments in outpacing others throughout the current pandemic. These investments tend to be less correlated with economic cycles owing to less reliance on things such as fossil fuels and commodities. In Europe, sustainable funds pulled in $30bn in the first quarter of 2020, in comparison to outflows of $148bn across all European-based funds according to Morningstar. BlackRock research in May found sustainable strategies have outperformed during this year’s period of intense volatility, with 94% of leading sustainable indices beating their parent benchmarks in the first quarter. Therefore there is now a monetary incentive to ESG investment in addition to a moral obligation- something those passionate about climate change will be glad to hear.

But progress has not came simultaneously across firms

But there is a big variation across different firm’s commitments to ESG investing. BlackRock and Vanguard supported no environmental resolutions in the US in 2015, but this did rise to 13.8% and 16.7% respectively in 2019 according to Proxy Insight, so improvements have been made. However, this is no match for BNP Paribas and Allianz GI, both of whom backed at least 90% of environmental resolutions in the last year. When it comes to sustainable investing, Europe is leading the way massively — the commitment to green finance can also be seen in the EU Recovery Fund’s pledge to a reasonable percentage of the money for “green” projects. A study by ShareAction found 38 out of 75 of the world’s largest asset managers scored badly on ESG issues, including BlackRock, Vanguard, and State Street — hugely influential firms. Many firms do seem eager to improve, however, with BlackRock having now revealed plans to put climate change at the centre of its investment process by rolling out new ESG funds, divesting some coal holdings, and taking a tough line on global warming during boardroom discussions with businesses.

Issues in the way of sustainable investing

There are many challenges currently facing sustainable investing. Despite 500 ESG funds being launched last year, green finance suffers from woolly thinking, marketing guff, and bad data. Publicly listed firms, excluding those which are state-controlled, account for 14-32% of the world’s total emissions. Global fund managers make hyperbolic claims about their influence in mitigating the effects of climate change, yet they cannot directly influence the majority of the sources of emissions, as these firms are outside of their control. 

Another very big problem is measuring the ESG impact firms are having. Corporate disclosure is poor; it is practically impossible to gauge a fund’s total net carbon footprint. Fund managers are using dubious ESG ratings, created by external advisors, that make subprime credit scores look like gospel truth. Many indices and portfolios which claim to be climate-friendly often contain the securities of firms that are big polluters. It is very difficult to actually invest sustainably with this level of imperfect information; investors may be having much less positive impact than they realise. 

Changes need to be made

A crucial first step to improving sustainable investing and keeping this growth we are seeing is for governments to force firms to improve their disclosure. For people to remain enthused and motivated in investing in ESG funds, they will need to know they are making an impact. If they are doing it out of ethical reasons, then clearly investors would be disappointed if their money is going to firms with large carbon footprints. Or, even if an investor is purely motivated by the returns from ESG investing, investing in funds containing big carbon emitters will lead to the end result of “stranded assets” and a huge amount of wealth destruction if climate change is not stopped. While there have been significant positive developments in sustainable investing, it is vital to have a solid foundation to be built upon to ensure it is here for the long run. 


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