This is a Guest Blog by Mr. Mohit Ralhan, CEO of TIW Capital
The genesis of ESG investing can probably be attributed to a 2004 UN publication called “The Materiality of Social, Environmental and Corporate Governance Issues to Equity Pricing.” Since that landmark paper, the ascent of ESG investing has been nothing short of meteoric. According to Morningstar’s data, open-ended funds and ETFs dedicated to impact, sustainability, and ESG considerations boasted assets under management (AUM) totalling USD 2.8 trillion as of June 2023 – nearly triple the amount from just four years prior.
Yet, as ESG investing has proliferated, it has become the subject of intensified scrutiny and debate. The critical voices emerge from both sides of the aisle, ones who support ESG style and others who vehemently oppose it.
One of the principal criticisms levelled at ESG investing is the spectre of greenwashing. This term, which implies the deceptive presentation of a company’s environmental and social credentials, has haunted some of the world’s largest asset managers. They have faced allegations of diluting their ESG commitments for the sake of profit. A 2021 Greenpeace study found that sustainability-focused funds in Luxembourg and Switzerland had only marginally higher allocation towards sustainable activities as compared to conventional funds. This revelation raised concerns about the authenticity of ESG investments and the alignment of capital with environmental goals.
Meanwhile, ESG opponents have voiced concerns over the fiduciary duty of asset managers. The argument posits that prioritizing ESG criteria could potentially come at the expense of returns, jeopardizing the financial interests of investors. Asset managers, it is argued, have a primary responsibility to deliver high returns to their clients. The perception that ESG considerations may lead to diminished returns has cast a shadow over the enthusiasm for sustainable investments.
Another critical contention against ESG investing revolves around the potential unintended consequences on everyday citizens. The reduced funding allocated to traditional energy companies has raised alarms about the energy crisis. These concerns have intensified, particularly in the aftermath of the Russia-Ukraine war, emphasizing the intricate balance that ESG investing must strike between sustainability and practicality.
Political dimensions have also permeated the ESG landscape. Many US Republican state officials, driven by the belief that ESG factors discriminate against fossil fuel companies in service of a “woke” agenda, have sought to sever business ties with firms embracing ESG principles. This pushback underscores the polarization surrounding ESG and its implications for businesses and investors alike.
In response to these critiques and shifting political dynamics, asset managers attribute this shift to having recalibrated their approach to ESG investing. A global investment behemoth notably reduced its support for ESG-related shareholder proposals in 2022-23 compared to the previous year. The company claimed to have supported only 7% of such resolutions during the 2022-23 proxy voting season, in contrast to the 21% support it lent to ESG-related proposals in 2021-22. Asset managers attributed this shift to a greater number of proposals that were deemed overly prescriptive or redundant, as companies were already taking action in line with ESG objectives.
The heart of the ESG debate lies in the lack of standardized criteria for assessing what constitutes a sustainable investment. The absence of universally accepted rules for ESG investing has allowed companies to exaggerate their climate credentials without substantive changes in their actual operations. To navigate this ambiguity, a critical imperative is to focus on standardizing ESG ratings. Large asset managers should develop funds with clear ESG mandates, providing investors with transparent choices.
Furthermore, rigorous audits of ESG disclosures by companies are essential to ensure the credibility of sustainability claims. This would empower investors to make informed decisions about whether to invest in ESG-focused funds or explore other avenues. By bolstering transparency and accountability, standardization and audits can help alleviate concerns about greenwashing and ensure that ESG investing aligns with both financial and environmental objectives.
The ESG odyssey has transformed the investment landscape over the past two decades, reshaping the priorities of asset managers and investors. However, this ascent has not been without its challenges and controversies. The debates surrounding greenwashing, fiduciary duty, unintended consequences, and political dynamics underscore the need for greater transparency and standardized criteria in ESG investing. As ESG continues to evolve, asset managers must navigate these complexities to harness its potential for both financial and sustainable growth.