The Breakdown: ESG
Experts explain relevant, complex and emerging environmental concepts and explore how they might shape our future.
Author: Eduardo Deschapelles
What does the term “environmental, social, and governance” (ESG) mean?
ESG is the criteria people use when they evaluate potential ‘Socially Responsible Investments’ (SRI) or the more focused ‘Impact Investments.’ ESG usually covers over fifty criteria, such as greenhouse gas emissions, gender equality, and minority board representation. While there are still no common standards for evaluating ESG criteria, numerous government agencies and NGOs around the world are advocating for more disclosure and standardized reporting.
Why are ESG initiatives so essential for achieving our long-term sustainability goals?
ESG is rapidly becoming more important as we face the urgent challenge of climate change. It appears that COVID-19 significantly accelerated our realization that the world is rapidly approaching a climate crisis that puts human civilization at risk. ESG standards and transparency will help governments focus on implementing targeted regulations to mandate mitigation strategies to the climate crisis. Moreover, investors can more easily allocate resources in a more informed and efficient manner that helps achieve long-term sustainability goals. This will not be easy, but it will be critical if we are going to address this crisis successfully.
How has ESG been used in an innovative, or powerful way?
One example is ESG ratings on equities, bonds, and investment companies. Companies such as MSCI, ISS, Bloomberg, and Sustainalytics provide these innovative and important tools. Armed with this information, potential investors have a stronger sense of a company’s ESG compliance and can make more informed investment decisions based on their own beliefs and priorities.
Unfortunately, most ESG rating services are not transparent so it is difficult for people to understand how they determined the ratings. Some newer rating services (e.g. www.ethos.so) now offer more data and methodology transparency. This is expected to accelerate ESG incorporation and help investors make better informed decisions.
What recent trends have you seen with ESG initiatives, and how do you think they will shape our future?
The recent trend that is gathering momentum is the hiring of senior ESG investment officers at large institutional investors and banks. This senior leadership and priority encourages companies to become more transparent and compliant with important ESG criteria.
The actions taken by investment managers, banks, pension plans, insurance companies, endowments & foundations, sovereign wealth funds, and other investors will inevitably force companies to focus on relevant issues and force changes to their environmental, social, and governance activities. In addition, governments around the world are starting to mandate ESG disclosures in corporate financial statements. These are positive steps but they need to be implemented with increasingly painful penalties for non-compliance.