Investors love ESG. They cannot have enough of it.
At the beginning of 2021, one-third of the global assets under professional management were sustainable. In other words, globally, $1 of every $3 was invested in a green asset (source: Morgan Stanley). As a consequence, sustainable investments climbed ( source: US SIF) 42% in value compared to 2019.
For those who do not know, ESG portfolios comprise funds thatareinvestedin companiesthatbelieve in sustainability–a commitment to reducing theirenvironmental,social, andgovernance impact. Such companies claim to go carbon-neutral by 2050 and prioritize the welfare of all stakeholders including employees, customers, and suppliers.
That said, it is quite hard to say whethersuchcompanies sincerely intend to improve sustainability and bring honest change or pander to modern investors. Look at these stats.
A 42% rise propelled sustainability investments to a high of $17 trillion. Merrill Lynch, in fact, estimates that the figure will be greater than $20 trillion in the coming decades. This seems especially convincing when we consider the fact that Biden urged the country’s largest companies to achieve carbon neutrality by 2050. It is estimated that by then, more than 60% of the world’s economy would have followed suit.
ESG indexes are already outperforming (source: Morningstar) their peers, showing signs of immense confidence and growth. Nearly one-fifth of all S&P 500 earnings calls and inquiries cite (source: FactSet) non-financial ESG data.
Such astounding facts and figures ring alarm bells, and they should. Do investors find such investments truly meaningful or are they dazzled by the hype, riding yet another tide? To flip the question, are companies truly making a sustainable change or are they greenwashing?
Read more:Trends that are Empowering the ESG Revolution in 2022
What is greenwashing?
Greenwashing is the art of making oneself appear more sustainable or green than one really is.
In polite terms, greenwashing represents a cover, an excellent exercise in PR and corporate marketing–pandering to modern investors and customers who increasingly advocate for responsible, sustainable investing.
Bluntly, it is a misleading lie–hypocritical andfairly unethical.
The unfortunate truth is that quite a sizable share of companiesdoengage in greenwashing.The Climate Bond Initiative (CBI), a not-for-profit initiative to encourage sustainable and resilient investments, found that out of the $140 billion worth of sustainable debt funds tracked in 2020, only 21% were certifiably green. The rest were merely labeled greenand hada few shades here and there. Those were greenwashed.
Take Tesla, for example, the electric car giant renowned for its sustainability claims. Only two of its three debt offerings were approved as green investments.
LikeTesla, there are dozens of companiesthathave exaggerated their ESG impact or outright contradicted it.
Amazon, for example, has been consistently accused of having poor or harsh working conditions. Itsemployeesare unhappy and appallingly micromanaged. Even accusations of union crushing have surfaced!Such instances emerged,despiteitsCEO, Jeff Bezos signingthe Statement on the Purpose of a Corporation announced by the Business Roundtable.It indicates hiscommitmentto the welfare of its customers, employees, shareholders, suppliers, communities, and so forth alike. In fact, a month after Bezos signed thestatement, Amazon terminated the health insurance of more than 1900 part-time Whole Foods associates!
Another CEOwhosigned thestatementwas American Airlines’William Parker. The airline leviathan, though, has had a nefarious reputation for violating labor laws accused by its mechanics of lower pay and harsh working conditions.
The list is quite long.
Wells Fargo, which claims to champion ESG programs,was found to deploy aggressive tactics to cross-sell their products. In an investigation, its employees revealed that the tactics were devised to achieve the ridiculously high targets set by their managers. Many were, in fact, fired because they opened accounts without the knowledge of customers, often forging their signatures. The aboveinstance signifiesanything but good governance.
In 2019, Johnson & Johnson faced a lawsuit that accused the multinational Pharmaceuticalgiant of downplaying the risks of one of its products. In 2013, the company was fined $2.2 billion for similar charges of improper marketing and not making warnings clear enough.
Nextis the case ofLarry Fink, the chief executive of BlackRock. Fink has been an ardent advocate of sustainable or ESG investing for years. However, it was found that out of the $7.8 trillion worth of funds he managed, nearly $85 billion worth of funds were composed of coal investments. Althoughaninsignificant amount,it shows apositivemove. Why not go the whole way?
The examples above show the cunning of these companies and many others in painting amore positivepicture of themselvesthan reality. Theyfalselyproject themselvesasclimate-friendly, equal, inclusive, ethical, trustworthy, responsible, accountable, secure, andendowed withall the virtues associatedwith sustainability. The perception, however, works wonders for their stock prices.
The above-mentioned scenarioisan example ofgreenwashing 101.
However, before your trust is fully eroded in them, understand that the problem is much murkier than it seems.
Read more:Embracing Communication: Why It Plays a Crucial Part in ESG Strategy Planning
How sustainable investments are greenwashed
Unlike BlackRock, there are companies that can go the whole way. There are companies that can properly integrate ESG in their strategy.It’snot that they won’t,butthey cannot.
The biggest challenge to materiality assessment in ESG istoidentify what constitutes ESG.
Yes, that is right. There is no official consensus as to what going the whole way means. There is no agreement as to which factors ought to be identified and analyzed to determine whether a company or organization has properly integrated ESG in its strategy.
At SG Analytics, for example, ESG consulting involves the analysis of hundreds and thousands of different factors across a variety of areas to determine the most favorable sustainability practices.
In fact, all industry leaders identify the most lucrative sustainable investments in this manner. They first identify hundreds of factors that they believe drive sustainability. Then, they thoroughly study companies, collectingtheirdata in relation to those factors. The data points, which can be in the range of thousands, are used to create a score or scaleto rankcompanies based ontheirestimatedsustainability.
However, since thereareno official, established guidelines, every ESG consulting firm relies on the quality of its own research.Hence,the market isrepletewith ESG scores,andone company may have two different scores as the scores consider different factors in their assessment.
Hencegreenwashing iswidespread either because companies make an honest mistake by confusingfactorsor they intentionally exploit the ambiguity inthedefinitionof ESG. Broadly, greenwashing happens by eitherof the two ways mentioned belowwith instances.
Excluding or obfuscating information that may negatively affect an ESG score: Recently, Apple decided to ship its iPhones without chargers. As one would expect, critics of Apple exploded. Earlier, when it removed the headphone jack, Apple explained that the jack had to be removed to make the phone thinner.However, whenthe companyremoved the charger,itexplained thatthe objectivewasto reduce e-wasteandsavethe environment.The explanationis baffling because Apple then proceeded to sell its next generation of chargers, separately. As The Verge concluded, Apple ditched chargers to save costs, not the planet.
Including extremely few green prospects,and yet labeling the entire fund sustainable: Vanguard,aPennsylvania-based investment advisor managing assets worth $6.2 trillion released two highly rated ESG funds. However, a report highlighted that nearly thirty stocks were greenwashed. Vanguard dropped the stocks immediately.
(It must be added that in the second case, a fund manager may include a fund that they think improves sustainability. However, committeessuch asCBI would disagree and consider an investment insuch a fundasgreenwashed.)
In this manner, ESG scores are distorted and ESG investors may be misled.
The question is,whois to blame here? The companies that falsely label themselves as green ortheESG asset managers who fail to filter out greenwashed sustainable funds?
Well,the answer is,of course, both.
How to avoid Greenwashing?
The problem is clearlythelack of standards,andestablishing standards is precisely how greenwashing of sustainable investments can be discouraged.
Here are a fewstandardswe think might help.
Absolute standards: Just owningless than1% of ESG assets does not makeaninvestment sustainable. ESG investing must be absolute–involvingall or nothing.
Active ownership: ESG investing must not be passive. Instead, investors and in fact, all stakeholders must take active ownership, regularly voting and engaging in decision-making.Such an environmentdistinguishes companies that are making an honest change fromthosemerelypretending to do so.
Agreement on factors: Activeownership is only possible if the stakeholders agree onthefactorsthatconstitute true and meaningful ESG data.
Standardized terms: Tounderstand those factors and their impact on sustainability, stakeholders must understand the terms that define them. Therefore, the terms must be defined with full clarity and transparency so that nothing is left ambiguous.
Government regulation: Like it or not, regulations could be of immense help. In Europe, the EU is already stepping in to separate the green from the greenwashed.
ESG investing is a great way to promote biodiversity, equality, inclusion, green energy, and all the positive changes that will make the world a better place.However,until these changes are made, we will never know which companies truly care and share our vision and which companies are running a‘marketing campaign.
Until then, ESG investors must be mindful, thorough, and careful in their research.Or,they could get in touch with us,thereal experts who knowtheir job.
