The Sustainable Investing Industry’s Choice: Be Bold Or Die
By: Raz Godelnik
Tags: Sustainable Investing, Sustainable Investment, Climate Change, Esg, Csr

The Sustainable Investing Industry’s Choice: Be Bold Or Die

A new report celebrates the growth of sustainable (aka ESG or socially responsible) investing to $30.7 trillion, but is there really a reason for celebration? Is this growing industry reflecting the sustainability agenda of the past or the future? It’s time to reevaluate the value of sustainable investing! Raz Godelnik Jun 12, 2019·6 min read

“Climate change may still be a matter of debate for some politicians, but investors are increasingly decisive. Money is gushing into any kind of asset labeled green or sustainable.” This was the opening sentence of a Bloomberg article earlier this month on the apparent growth in sustainable investing worldwide.

The article provided highlights from a report of the Global Sustainable Investment Alliance (GSIA), an international collaboration of membership-based sustainable investment organizations, showing that “globally, sustainable investing assets in the five major markets stood at $30.7 trillion at the start of 2018, a 34 percent increase in two years.”

Needless to say I got excited and went on to read the report. By the end of it I was much less excited — this report shows the growth in investing that have some connection to sustainability, but this connection is very loose and seems to have very little to do with the current sustainability challenges we face. Not only that this report provides very little reason for celebration, but it also suggests that sustainable or socially-responsible investing (SRI) is going in the wrong direction as it offers the public mainly a dated and watered down version of sustainability.

To explain my point let me show first what investment strategies are included in this report under ‘sustainable investing’. According to the report sustainable investment encompasses the following activities and strategies (in parenthesis I included a short description of each one of them as provided by the report and the reported total assets for each category):

1. Negative/exclusionary screening (the exclusion from a fund or portfolio of certain sectors, companies or practices based on specific ESG criteria, $19.77 trillion)

2. Positive/best-in-class screening (investment in sectors, companies or projects selected for positive ESG performance relative to industry peers, $1.84 trillion)

3. Norms-based screening (screening of investments against minimum standards of business practice based on international norms, such as those issued by the OECD, ILO, UN and UNICEF, $4.68 trillion)

4. ESG integration (the systematic and explicit inclusion by investment managers of environmental, social and governance factors into financial analysis, $17.54 trillion)

5. Sustainability themed investing (investment in themes or assets specifically related to sustainability (for example clean energy, green technology or sustainable agriculture), $1.02 trillion)

6. Impact/community investing (targeted investments aimed at solving social or environmental problems, and including community investing, where capital is specifically directed to traditionally underserved individuals or communities, as well as financing that is provided to businesses with a clear social or environmental purpose, $0.44 trillion)

7. Corporate engagement and shareholder action (the use of shareholder power to influence corporate behavior, including through direct corporate engagement (i.e., communicating with senior management and/or boards of companies), filing or co-filing shareholder proposals, and proxy voting that is guided by comprehensive ESG guidelines, $8.39 trillion)

* Please note that the total of the seven categories is higher than $30.7 trillion as “managers may apply more than one strategy to a given pool of assets.”

OK, so why do I think this report shows SRI has a problem when the report is presented so positively (see for example this quote from the Bloomberg article: “People are surprised at how much the private sector has taken this really seriously,” said Anjuli Pandit, head of corporate sustainability in the U.K. for BNP Paribas SA)? My main argument is that based on the report it seems like the sustainable investing industry has lost touch with the reality and therefore may not offer as much value as it claims to offer.

Let’s focus for a minute on the environmental dimension. We are in a point in time where the need for urgent, bold, and drastic action to limit global warming to 1.5C is clearer than ever — according to the latest IPCC report global emissions need to be cut almost by half by 2030 to pursue a realistic pathway to limiting global warming to 1.5C. Overall, we know that we need to do something differently to get it done.

Yet, Almost none of this is evident in any of the strategies included in the report. Let’s take the two leading strategies for example:

Negative/exclusionary screening

The largest sustainable investment strategy ($19.77 trillion) includes many screening criteria that have nothing to do with the climate crisis like production of weapons, tobacco, pornography and alcohol (aka sin stocks). In fairness, this category also includes fossil fuels as a criterion, screening out companies producing fossil fuels.

It’s also important to mention the growing interest in fossil fuel divestment — as a 2017 report from Schroders points out: “while fossil fuel exclusions are currently small, high interest in this option means the value of screened assets is growing quickly from a low base. Rising concerns over climate change have driven dramatic divestment in oil, gas and coal, with globally screened assets more than doubling from $2.6 trillion to $5.4 trillion over the last two years”. Another indication for this growing interest comes from 350.org, which reports on total divestment commitments so far of $8.77 trillion.

ESG integration

The second strategy in size ($17.54 trillion) is “about more than weeding out wrongdoers. Investors try to assess the risks and opportunities presented by environmental, social and governance considerations,” Antony Currie and Neil Unmack explain. Currie and Unmack point out that “analyzing ESG factors involves a fair degree of subjectivity” and suggest that the outcome of ESG-based grading of companies may be debatable.

There’s also criticism about backing ESG funds more by marketing (“explore all the ways we can help you to achieve your long-term financial goals and match your money with your values”) than science and that investors are mainly interested in charging higher fees and appealing to millennial customers. I don’t want to speculate about investors’ motives, but the fact is that I couldn’t find any fund that takes into consideration companies’ compliance with the Paris Agreement goals makes me worried about the connection between ESG and science. What’s the value of ESG analysis that does not consider adoption of science-based targets?

Overall, it seems that the issues around ESG integration reflect some of the challenges we find with CSR, where efforts are grounded in self-defined benchmarks rather than objective ones and all progress is celebrated, no matter how small it may be.

The Urgency of the moment

In January 2019 Adam Connaker and Saadia Madsbjerg wrote a piece on HBR entitled “The State of Socially Responsible Investing”. In the final paragraph they wrote:

In one sense, nothing about what drives us to invest has changed. We invest because we are planning for the future and hoping for a better, wealthier tomorrow. What has changed, perhaps, is our sense of what constitutes wealth. The ever-innovative financial service industries have responded to these changes — as they have always done — by creating new modes and tools of investment. And with these innovations, perhaps, we can all work more effectively to make the world a healthier, safer place for our children.

Right now, unfortunately it doesn’t feel to me that sustainable investing helps us to plan for a future in which we can live within our planetary boundaries. It doesn’t feel like it manages to respond in time to the current context of the existential threat of climate crisis (including its dire social justice implications), the unprecedented biodiversity loss, and the growing understanding that “our house is on fire.”

To me it feels more like the sustainable investing is stuck in the past, representing a space where there is no IPCC special report on the impacts of global warming of 1.5C, Greta Thunberg and youth climate strikes worldwide, Green New Deal, or Extinction Rebellion protests. This perhaps can explain the disconnect between the celebratory tone of the GSIA report and the ongoing grim news on climate issues, from faster rise in carbon emissions to “record-setting heat waves are beginning anew this summer”.

I believe that there can be a value for sustainable investing. I believe that investors can certainly play a role promoting a clear(er) sustainable agenda in companies. Divestment from fossil fuel companies is one example, as well as a starting point, but it’s not enough. This industry needs to start adjusting quickly to the fast-changing context and adopt practices that consider the urgency of the moment. Otherwise, what it does is nothing more than rearranging the deck chairs on the Titanic.

It is a moment for the sustainable investing industry to make a simple choice — “be bold or die”. So what would it be?