ESG investing is now mainstream. But to firmly advance it, and combat increasing scrutiny, we (as a collective industry) must find a standardized way of talking ESG in the investment and business communities.
Between current politicians, former practitioners, and various regulatory bodies, there is no shortage of aggrieved parties. As the saying goes, if you aren’t catching flak, you’re not over the target, and ESG is catching a voluminous amount of criticism.
To be fair, the ESG investment industry at large does itself no favors. The lack of uniform terminology impedes further adoption and opens up the industry to continued attack. Ultimately, setting a more universal regulatory template for investors to follow will allow ESG proponents to navigate the current climate and focus on making sure investors understand the choices that are available to help them meet their long-term goals.
See also: – Conflating terminology is doing a massive disservice
As little as a few years ago, ESG integration simply meant that a portfolio manager assessed risk related to environmental, social and governance matters as part of their individual company research process. Now, this risk management technique is considered table stakes for a majority of the industry, not just for ESG-centric mandates.
There is no expectation that a client’s capital will be invested in the highest scoring ESG companies or be used to fund industries looking to make an impact on any of the common ESG focus areas. Expressly, many of these funds invest in companies that an ESG values-focused investor would explicitly disqualify.
We are at a key juncture in the journey of ESG investing where terminology needs to be addressed to further advancement.
Clean language
Increasingly, investment managers are aspiring to distinguish themselves as values-based investors and mixing terminology like “sustainability”, “ESG focused” and “ESG impact”. A descriptive soup made murkier by the different objectives that each fund employs.
For example, there is no standardized nomenclature to express goals and distinguish offerings, with funds mixing the same terminology across the various ESG investment approaches. This includes:
1) Those that exclude certain businesses, often considered a negative screen,
2) Tilting towards higher-scoring companies, referred to as a positive screen,
3) Investing in specific sustainably focused industries/sectors,
4) Investing directly in sustainably focused products, or
5) Engaging with companies to make an ESG impact with their dollars.
The United States Securities and Exchange Commission (SEC) agrees, and fortunately, it is determined to take action to help clarify the types of funds that are being offered in the ESG space.
See also: – ‘ESG integration’ a sticking point in SEC proposals
One of the primary complaints against the investment industry is that it facilitates greenwashing. The proposed naming convention delineates between funds that aim to manage risk as part of a broader mandate and funds that aim to commit to ESG principles (both focus and impact). The former group does not have an explicit commitment to ESG and clarifying this upfront will prevent greenwashing en masse.
Just as important, the number of funds meeting the latter definition is much smaller and will allow investors to target funds that invest according to ESG values-based principles and/or ESG impact objectives—providing the requisite disclosures/reporting.
Also, a smaller number of well-defined product groups allows for an easier investor education process regarding what each category brings to the table and allows for them to choose the best option to meet their goals.
All of this is to say, the industry might as well roll out an open invitation for criticism. If the industry itself cannot coalesce around a standardized naming convention, how can it expect others to fairly assess the validity of the goals and objectives of the products themselves? This is the next maturity point for ESG and will be a welcome change if we get it right.
