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Introduction – ESG Investing
The acronym “ESG” (environmental, social, and governance) came into relevance in 2005, and until recently, its vaults were steadily growing. A fivefold growth in internet searches for ESG since 2019 speaks for itself, even as searches for the popular term “CSR” (corporate social responsibility)—an erstwhile arema of corporate focus more reflective of building social engagement than changes to core business—have steadily declined.
Across multiple industries, different geographies, and relative company sizes, organizations have been allocating more energy and resources toward improving their ESG. Over 90 percent of S&P 500 companies publish annual ESG reports in some form, as do approximately more than half of Russell 1000 companies.in Jurisdictions, reporting ESG elements is either termed mandatory or under active consideration in most countries.
In the United States, for instance the Securities and Exchange Commission (SEC) is implementing new rules that will require detailed disclosures of climate- risks and greenhouse-gas (GHG) emissions.2 Also Additional SEC regulations on other facets of ESG have also been proposed and are pending execution.
The rising profile of ESG mandates has also been plainly evident in patterns of stock investments, even while the rate of new investments has recently been falling. Inflows into sustainable funds have been rising incessantly.
The key considerations of environmental, social and governance (ESG) in making investment decisions have also faced a lot of negative scrutiny over the past year.
Criticism of ESG has been mostly driven by the Russian invasion of Ukraine, inflation, post pandemic after effects and the rise in populism counter culture in some parts of the world.
However, true sustainable investing will be still key to supporting the transition to a greener and more sustainable future and can’t be dismissed either ways.
The consideration of environmental, social and governance (ESG) factors while making investment decisions had not faced such a period of pessimistic scrutiny like 2022.
After years of rising attention and capital investments allocated to ESG solely, which made substantial stances towards its technical implementation and rising expertise, but 2022 surely proved to be a point of deflection.
There are several underlying causes behind this bout of criticism. The combined effects of political disorders occurring in different parts of the world is transitioning the macroeconomic and geopolitical context every single day, which impacts any investors’ positive thinking.
Outdated interpretations of valuable stocks pitted to an investment manager’s fiduciary duty have further clouded the real purpose and vision of ESG.
The abundance of ESG-related green investments, Socially responsible investing (SRI) and sustainable portfolios often leads to an outbound confusion about what these product investments are true to label.
Many now attach excess baggage to expectations of the ESG acronym, blurring its practicality in both business and stock investment. In the US, the heated ideology and debate over mandatory climate risk action reporting and rising fossil fuel divestment, has added further to the overarching criticism.
In this complex politically diluted environment, we seem to have really forgotten what ESG is actually meant for.
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ESG Goals to sustainable economic growth
Image Source: Globalfundsearch
If we look back, understanding ESG in a capitalist context is not complex. It’s extra-financial information that enables better decisions leading to a sustainable economic growth.
From a stock investment perspective, incorporating ESG analysis alongside traditional financial aspects adds to our holistic understanding of risk management, futuristic opportunities and long-term value based outcomes.
As a result, for most businesses, ESG is a top priority. Not because of deep-rooted ethical or moral stances like some vocal critics of ESG claim, although it could be an important consideration, nonetheless.
But Rather, it is because ESG risks are the largest financial threats facing businesses, having a significant impact on their long-term performance, retainership and profitability, including their abilities to raise new capital sources.
Moreover, as newer regulation emerges and fines are being issued, which is truly the case, at a very basic level organizations must end up complying.
Businesses should be focusing on all stakeholders not the sole shareholder or stock owners, feeding the long-term vision, rather than the shorter one. Global capital flows should step in with this logic. As doing so not only benefits the environment and society as a whole, but it also makes a lot of future commercial sense.
The most opportunistic shareholders know the general interest caring much about motivated coworkers and employees; building an affirmative corporate culture; ensuring reliable and legally compliant supply chains and industry partners; and having a collaborative and productive dialogue with regulators.
Good management of materiality and risks makes for a sound future business sense. And it’s also at the same time about sustainability.
Arguments sans incorporating ESG in investment decisions does not align with fiduciary duty are totally misinformed. Asset managers’ responsibility to highlight all material risk factors will definitely affect some long-term investment performances.
Short-term investment behaviors, like being a high carbon emitter industry, can have significant negative consequences on future performance and reliability even affecting the viability and the existence of such a business.
Firms with stronger ESG goals will outperform others in 2023
Image Source: consultancy.asia
Another Leading argument made by some detractors and deflectors of the ESG claim. This approach must implicitly mean sacrificing performance upside. And that report is not necessarily true; the data is mixed and complex.
There is certainly research showing the companies that do focus on its stakeholders, with a serious approach to ESG, outperform in the long-term.
For example, looking at emerging markets, companies exposed to controversies such as pollution, poor governance or labor strikes, underperformed over the years. Some Equities are particularly exposed to this threat.
The list of examples can go on but, understanding investor performance taking ESG seriously versus one that doesn’t is absurdly binary. Particularly being hard to judge today because of lacking an equal investment level playing field.
The energy majors – also some of the biggest polluters – are still largely financed by global banks and even central banks, the largest sources of investment capital without much remorse.
There is still incentive to continue supporting these non-renewable fuel companies, with the flow of all capital – public and private – towards the low carbon transition, is far too slow as a result.
The war in Ukraine provoked this, with oil majors and defense stocks skyrocketing, generally unpopular with ESG focused investors, outwitted being some of 2022’s top performers.
Energy crisis movement of capital to lower carbon sources dynamics may well change soon. The evident disruption caused to energy markets by Russia’s invasion of Ukraine is surely forcing banks and governments to speed up the movement of capital to lower carbon sources in 2023.
Final Thoughts
Image Source: sloanreview.mit.edu
This unplanned shift in capital and investment may appear abrupt in the near term, with most populations struggling to pay for the cost of living. The emerging background for these sorts of decisions has an indirect price on carbon – fundamentally what the world has not officially agreed upon.
Added to this, the International Energy Agency estimates the result of the recent energy crisis is bound to include enough renewable power sources in the next five years as it did in the past 20. That is some cause for optimism, and should help the evolution towards a green, net carbon zero sustainable future.
The key role and value addition of a truly sustainable investing supporting this transition, offers investors exposure to newer long-term growth opportunities, as their best answer against the current criticism of ESG in 2023.
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