Three letters that won’t save the planet – a response to the Economist’s ESG Leader article

How we move beyond thinking about shareholder profit at the expense of all else has been a long and complex journey. The article accuses the industry of lumping together a number of different topics that have become confused. However, in our view, the article seems to similarly lump together an entire industry without making distinction between the actors, the approaches and the intentions.

In a broad sense, there has been a necessary evolution of approach to get to where we are today. We cannot analyse a company on their climate credentials unless we have the necessary data to do so – much of ESG’s work over the past decade has been improving the transparency and consistency of data to make better informed decisions. The data is still not good enough to make perfectly informed decisions; there is a decade of work ahead on this, requiring improved regulations and improved reporting. However, many in the industry are tirelessly trying to improve the information available, by no means all are greenwashing, cynically marketing and overpromising.  

Whilst the three letters ESG may have become too overarching and confusing, this does not make the intentions hollow or the pursuit worthless. We don’t want to discourage genuine efforts simply because of the complexity and challenges ahead. Do we need to get better, improve clarity and simplify? Absolutely. Should we abandon ship? No, this would be catastrophic.

Over the past decade, ESG’s primary purpose has been to work to improve transparency and understanding of how ESG risks are being managed within a business (normally called ESG integration). Regardless of what a business does, this analyses whether a company is being a good global citizen – such as how are they managing their products safety, how are they managing labour relations, and whether they are avoiding modern slavery and child labour. Improving transparency and data available has been critical to moving to the next stage, which is investing in companies because of what they do, and the challenges that they are solving. Namely, investing with purpose. 

The asset management industry is ready to facilitate this evolution from ESG integration to investing with purpose. However, for the reasons outlined by the Economist, due to concerns that returns could be sacrificed, many asset owners/pension trustees are not willing to make the switch. Better outcomes as a goal is too lofty, we just have to deliver returns that are as good, whilst investing in companies that are going to make tomorrow better.

These two different approaches, ‘ESG integration’ vs ‘investing with purpose’, can give quite different conclusions when looking at the same company. A medical devices company that makes pacemakers and is innovating to improve medical outcomes is likely to be marked down due to the ESG risk of putting devices into people’s bodies and the resultant potential litigation.  By contrast, an investing with purpose lens sees that this type of company is solving our challenges on value-based care, and improving access to medicine over the longer term.

The second area in the report that was perhaps not as clear as we would have liked, is how to invest to solve the challenges of climate change. Our desire to have clean portfolios today risks disinvesting from the businesses that we need to transform to provide solutions in the future. You can decarbonize a portfolio today by disinvesting from utilities and steel manufacturers, but utilities includes companies who are making huge investments to decarbonize our electricity infrastructure. Whilst steel is a “dirty” business, we need it to make wind turbines.

We need to stop looking at where businesses are today, and start asking critical questions about where they will be in the future. Is this a product that we will still need in 30 years? How do we make it better? And how do we support those companies in making these transitions? Our desire to signal virtue today risks failing to invest in the business that we need to solve the challenges ahead.  

That said, we do agree that the asset management industry cannot solve these challenges alone. We need government action to improve disclosure, but also to regulate and penalize those ‘who externalize costs onto society’ – where those costs are felt directly by businesses in their P&L. It is only then that we will not be forced to choose between profits and good businesses.