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Ideas Farm: ESGet out of here!

The ESG industry is getting stick from some noteworthy people, but sustainability remains a theme private investors should look to profit from.
Ideas Farm: ESGet out of here!
  • Beware greenwashing
  • Beware dodgy “do-well-by-doing-good” logic
  • Beware industry hubris
  • But don’t throw the baby out with the bath water
  • Loads of new idea-generating data

Complaints about the environmental, social and governance (ESG) investment movement have gotten quite loud over the last month. Points of objection are being raised by respected industry figures, academics and insiders.

Late last month, BlackRock's former global chief investment officer for sustainable investing, Tariq Fancy, published a 40-page essay on blogging-platform Medium to decry his work at his old firm as “contributing to a giant placebo” and calling for “urgent government action to address systemic problems.” 

Meanwhile, Aswath Damodaran, a highly-respected author and professor of finance at the Stern School of Business, has this month doubled down on previous criticisms of what he terms the “goodness gravy train”. 

And researchers from Paris business school EDHEC have this week highlighted the limpness of ESG ETFs with a study that found only 12 per cent of fund composition was based on ESG scores with most determined by market cap. The report, titled “ Doing Good or Feeling Good? Detecting Greenwashing in Climate Investing”, also found funds’ holdings tended to be in businesses that were on a downward ESG trajectory.

All this griping feels quite at odds with the mood 18 months ago when it was hard to hear anything over the cries of “do well by doing good”.

A common concern from all three of the recent criques is that ESG is not the grand solution that it is being marketed as by a hubristic and well-incentivised finance industry. At its box-ticking worst it is simple obfuscation and encouragement for inaction by the powers that be. 

A further worry is investors as well as the industry have bought into the idea that ESG is an end in itself. The idea that it is possible to address pressing global issues without sacrifice is alluring but unlikely.

There is also doubt about whether companies actually do improve performance through ESG action. If they did, wouldn’t they have been doing it already? Damodaran takes the argument further with the thought that if ESG improved performance, wouldn't investors be pricing it in already?

Whatever one's take on ESG is, thoughtful arguments like these should be welcomed. Sound criticism provides a basis for improving measures of sustainability and better implementation of sustainable-investment mandates. 

But for private investors, who generally have to rely on common sense over the current confusion of sustainability ratings and standards, the key issues and opportunities in this space probably have not changed.

There is a likelihood that we could see an end to some corporate free-rides based on external costs that wider society has historically footed the bill for (e.g. pollution, low-wages, water use, carbon emissions). There is also likely to be demands for recompense from some sectors, such as oil and gas. In the round, it is probably better for private investors to back companies trying to mitigate the risk than deny it.

Meanwhile, those companies that can offer viable solutions to sustainability issues could have an opportunity to create significant value for themselves and their shareholders. This could be a rich hunting ground for some time. 

And for private investors looking to go down the fund route, while passive ESG investing should be forced to improve as criticism grows, there are already a number established active fund managers, such as Impax (IMPX) and Liontrust (LIO), operating at the far more exciting, solutions-focused end of the sustainability spectrum. 

Read Tariq Fancy's essay here

Read Aswath Damodaran's "goodness gravy train" blog here

Read about EDHEC's research here