In the US, a wave of anti-ESG sentiment has been gaining momentum as Republicans describe the trend as “woke capitalism”— but is there any truth to these claims, or is allowing investors to assess environmental, social and governance (ESG) considerations just a natural evolution of capitalism?
“ESG, like almost any new initiative or development, can and will inherently become highly politicised,” a senior executive of a large asset owner told AsianInvestor.
A few highlights from the GOP's play against ESG include: Texas wanting to withhold state funding from banking institutions that it perceives as being antagonistic to the fossil fuel industry; West Virginia claiming that S&P ESG scorings are politically subjective; and Republican Senate candidate Blake Masters in Arizona saying that ESG scores are an existential threat to the US.
“Republicans will invoke a ‘rights argument’ and combat any policy they see as violating their degree of autonomy with where they should or can be investing their money. And then of course, there's the sort of opinion that ESG impact investing and sustainable finance, are being promoted by the sort of ‘woke’, more left-leaning advocates. With mid-term elections approaching, it is not surprising that this argument is being leveraged,” the executive said.
“We've been seeing increased polarisation between the two major US parties, so it's really a bit of a systemic issue. But specifically, when it comes to ESG, it needs to come down to a values-based decision regardless of whether you believe climate change to be real or not," the person said.
An investigation by the New York Times revealed a concentrated effort by nearly two dozen Republican state treasurers to halt climate action and oppose regulations that would make clear the economic risks of climate change.
The investigation also uncovered that these lawmakers had been, in one way or another, heavily backed by fossil fuel companies during their campaigns and in their state funding, so it is quite safe to say that their opposition to particularly the environmental aspect of ESG does not come from an unbiased or purely principles-based position.
VALUES AND SOCIAL RESPONSIBILITY
While Republicans argue that regulating ESG disclosures violates their freedoms, it could be argued that the lack of mandatory disclosures on how a company or fund operates ultimately strips an investor of their ability to make an informed decision. This in turn suppresses the investor's freedoms to choose based on his or her own ethics, values or social responsibility.
Investing along ethics- and values-based considerations and the right to shun or invest in companies depending on whether they reflect a group or individual’s political, religious and philosophical beliefs and values should be protected. Throughout history, this style of investing has occurred, for example religious groups such as Quakers have traditionally shunned investments in areas such as alcohol, weapons and gambling.
In 1971, two United Methodist ministers launched the first ethical mutual fund that sought to avoid companies that contributed to the Vietnam War.
Similarly, during the anti-apartheid movement investors advocated for divestment from South Africa.
With growing concerns around climate change, stakeholders are now demanding increased accountability and transparency in how companies are assessing the likely environmental impact of their operations and identifying options to minimise environmental damage.
Companies that do not comply will likely be overlooked by investors who would like to use their own capital to make a difference and unfortunately regulation and threat of punitive action may be the surest way to ensure these disclosures are honest.
Board diversity mandates have also come under fire from the Republicans.
In May of 2021, a conservative legal group called Judicial Watch was successful in challenging a California state law — which required publicly held companies to include women on their boards — pushing back against the Democratic state's mandate to diversify corporate leadership.
A judge ultimately deemed the law unconstitutional and that the law violated the equal protection clause. It also ruled that the state failed to show a connection between women on corporate boards and improved financial performance adding that the academic research on the topic was inconclusive.
A similar dispute is underway, after the US Securities and Exchange Commission approved a Nasdaq policy last year that asks companies to disclose the demographic makeup of their boards, and questions them if they fail to meet certain standards for diversity — in this case the inclusion of women and members of the LGBTQ+ community.
Two conservative groups have sued, claiming the rule is discriminatory and unconstitutional. In defending the policy, Nasdaq lawyers said it was a response to investors’ demand for information about board diversity.
This trend to mandate board diversity is not unique to the United States. For example, in Hong Kong, businesses are rethinking the makeup of their boards amid mandated rules by the Hong Kong exchange and increased pressure of investors on listed companies.
“I've always felt this, the social dynamic of ESG particularly is where you get these sort of political consequences,” said a senior representative of a global investment firm.
Focusing on just board diversity is a bit of a simplistic way to focus on this issue and it doesn’t really address the far broader, more systemic issues around why boards tend to consist of mainly men, the person said.
“I feel this board room diversity point is looking at the issue from too much of a macro perspective, whereas the more fundamental area where we can have more impact, and which is more complicated, is on the micro level,” they said.
“You need to take a closer look at how these companies are recruiting, what their hiring and retention strategies are; how are they attracting people —because that's going to have a bearing on who ultimately sits on your board.”
The need to diversify representation at the board level is important for practical reasons, as customers will themselves be diversified and understanding these separate communities will be harder for just one homogenous group, they said.
“It's just practical if you want to be a more successful company and you have a broad consumer base, you want to have people who understand or can relate to those consumers. For that I think you need gender diversity and ethnic diversity at the decision-making level.”