As the world gathered for the United Nations Principles for Responsible Investing in Person (PRI in Person) in Tokyo this week, there is renewed spotlight on the investment implications of environment, social and governance (ESG) factors.
Over the past decade, the attitude had been one of growing acceptance of the importance of understanding ESG and how to incorporate these factors into investment and ownership decisions.
In recent years, however, there has been some pushback against the concept of incorporating ESG in investments.
In addition, there is a growing camp of industry experts who believe that ESG is no longer enough to assess the true impact of companies and that a more, holistic view is needed.
The ESG operating and regulatory environment is certainly quite different around the world.
The pushback is most visible in the US, where the entire issue has become a lightning rod in American politics, with more left-leaning politicians advocating for a greener, more diverse society and right-leaning politicians leading the fight against ESG.
European countries, meanwhile, are tightening regulations around ESG and ESG fund labelling, to ensure funds do 'what they say on the tin'. In Asia, the Australian regulator is cracking down hard on greenwashing, making superannuation funds cautious about responsible investing as a whole.
Yet, ESG-focused investing by institutional investors is set to soar by 84% to $33.9 trillion by 2026, according to a PwC report released in October 2022. So at least some experts remain hopeful the trend will continue, despite emerging challenges.
Against this backdrop, AsianInvestor asked what the biggest challenges for ESG today and whether it can benefit from a ‘rebranding’ to get a broader, universal impact among investment industry stakeholders.
The following responses have been edited for clarity and brevity.
Danielle Welsh-Rose, head of sustainability investment specialists and APAC sustainability
We are seeing some pushback on ESG investing, notably in the US.
While much of this can be attributed to domestic political positioning, it is still having repercussions beyond the US.
It has been one of the recurring topics at the United Nations PRI in Person conference this week in Tokyo.
As has been the case since the very beginning of the concept of ESG integration, it is important to remember that we are essentially looking at investment risk and opportunity.
The semantics certainly matter when talking to stakeholders about ESG.
There are many challenges for asset owners in further embedding ESG.
Globally, investors are still grappling with understanding climate risk, often in unsupportive policy environments. Increasingly, ‘understanding climate risk’ also means understanding adaptation to a world already in the grips of the physical impacts of climate change.
The other big emerging challenge for investors is the integration of biodiversity and nature considerations.
Similar to climate change, this is an enormously complicated topic, and we are really only at the beginning of trying to understand the investment implications of biodiversity loss, and the dependencies of supply chains on nature.
For asset owners and their managers to fully embed ESG considerations across their investments, aligning portfolios with international climate, environmental and social goals, we need policy environments that align with these long-term objectives.
Tomomi Shimada, lead APAC sustainable investing strategist
J.P. Morgan Asset Management
One of the key challenges to embrace ESG standards is that there currently is no universal definition of what ESG means, and it may be defined differently depending on the organisation, region or industry.
Hence “ESG” can be associated with different investment approaches such as exclusions, impact or ethical investment and it can cause confusion.
At JPMAM, E, S and G is defined as extra financially material data, which is part of the many factors that we consider when making investment decisions.
We have a systematic process to ensure multiple aspects of financially material information are incorporated in our research, while maintaining a nuanced approach that allows each investment team to manage the implementation of ESG factors.
There are different approaches to analysing and considering ESG, and as a fiduciary it is our duty to provide options to our clients.
A simple rebranding of ESG would be difficult to create the universal impact that we all hope for. It would require ongoing education about ESG as a set of financially material data, and the appreciation of different methods of adoption in different jurisdictions and industries/sectors.
Justin Tan, corporate and securities partner
Sustainability reporting standards are still at a very nascent stage – the ISSB standards have only recently been released, and adoption will be patchy and varied across multiple jurisdictions.
This makes comparison of ESG standards for investment options across different sectors and jurisdictions difficult if not impossible.
Until there is more universal and consistent adoption of sustainability reporting, asset owners will not be able to treat ESG standards as a fundamental factor in their investment assessments.
What ESG requires is not a “rebranding” – it is already a huge marketing success and has won the PR battle as being something important that needs to be incorporated into the investment ecosystem.
Instead, what ESG requires is the much harder work of getting the fundamentals right – universal and objective standards that can be easily applied and compared across sectors and jurisdictions.
This will require a high level of coordination and convergence between stakeholders over an extended period of time. This is a long-term project, not something that is going to happen overnight.
Timothy Goh, partner
A major gripe that we hear from asset owners is the lack of standardisation in ESG standards but one of the biggest challenges is the lack of necessary expertise and experience to effectively integrate ESG factors into investment decisions.
This includes understanding the complexities of ESG issues, obtaining and interpreting ESG data, and assessing the potential impact of ESG factors on financial performance.
While it is true that some ESG standards contain a quantitative value, there isn’t yet a definitive direct correlation between the various reported ESG standards with a positive financial return.
This can make it difficult for asset owners to justify ESG-related investment decisions, many of which are longer term by nature, based on short-term financial metrics.
ESG is often misunderstood or seen as an optional consideration or a compliance issue.
A rebranding could help clarify that ESG factors are integral to assessing the long-term sustainability and ethical impact of an investment, not just 'nice-to-haves'.
A rebranding could promote the integration of ESG factors into all aspects of investment decision-making, rather than treating them as separate considerations.
The data from social and environmental systems will feed into a broader qualitative and quantitative analysis, enabling asset managers to adjust forecasted financials or company valuation models for the expected impact of social and environmental factors.
A rebranding could also highlight the competitive advantage that comes from the integration of ESG factors into financial decision-making.
Sarah Wilson, managing director for responsible investing and ESG integration
Whilst ESG adoption and flows continue their positive upswing, the main barrier to adoption of ESG is the lack of clarity about what the discipline is trying to achieve.
Over the years, the term ESG has unfortunately become shorthand for a long list of different objectives, ranging from enhancing investment performance, better managing risks, achieving positive social and environmental impact, and avoiding investments that cause harm.
While there is often an overlap between these objectives – such as investing in a green building that retains and grows its value better than a conventional building – sometimes they are distinct.
Getting wider adoption requires an ‘investment first’ approach that prioritizes consideration of financially material ESG factors in all investments, paired with ‘investor choice’ from a menu of strategies that meet various ESG objectives.
Standards that clearly align to a certain objective are part of the solution, such as green, blue, and orange bond labels that help investors identify bonds with different types of positive impact.
An ESG ‘rebrand’ could also help address these barriers, but not simply by replacing ESG with another similarly overloaded term. Instead, the industry must find new, more precise terms to differentiate between objectives, ultimately supporting growth by resolving confusion.