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ESG: Don’t Let a Promising Concept Become Corrupted or an Insane Regulatory Woke Crusade

We hear from Bill Blain on why he’s become an ESG sceptic thanks to the increasingly problematic nature of what should be a promising concept that can help our planet, economy and society.

Posted: 31st March 2021 by Katina Hristova
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The only thing faster than light is the speed at which new ESG (Environment, Social and Governance) conferences, funds and advisers are emerging. Every corporate finance desk now boasts an abundance of Green funding expertise, there are more articles on environmental economics and corporate social responsibility than one could ever read, and the market can explain multiple variations of “sustainability” in at least 21 different languages.

Sadly, in my jaundiced dotage, I have become an ESG sceptic. Initially, I welcomed ESG as a promising conceptual framework for improving the global economy – but is becoming something less.

The concept of directing markets to achieve positive social and environmental outcomes for the economy is a good one – whatever nonsense Milton Freidman believed about the purpose of markets only being to deliver returns to shareholders. For years, socially responsible fund managers have tried to steer their funds towards investments likely to do social and environmental good, responding to the public sense of rising environmental and social crisis around the globe.

Now that these fears have become very real, they’ve been formalised – ESG has become an investment imperative.

But it’s also become a lucrative opportunity. ESG “experts” are right up there with compliance officers in getting the big bonuses. Asset management CEOs back it because they believe the ESG zeitgeist attracts client money. It’s all a bit pick and mix as everyone jumps on the bandwagon. There are, apparently, over 160 different voluntary ESG reporting standards and 64 standards-setting agencies worldwide.

Far from empowering stronger corporate governance – by far the most important, yet most neglected aspect of ESG – to frame a discussion on how finance and government can drive social and environmental goals, ESG is morphing into an ill-informed plethora of rules and opinions presented as irrefutable facts. It’s becoming a wall behind which the financially credulous are targets, and where demagogues promote their own agendas. The history of finance is the history of arbitraging bad rules.

The volume of funds with a Green or ESG related theme has doubled to $1.7 trillion over the past year. Predictably, assets perceived to be ESG “good” have risen in price, incentivising the “greenwashing” of less pristine investments. ESG proponents say ESG funds outperform – which is exactly what you would expect when everyone is trying to buy scarce ESG compatible assets. It’s not that green investments are outperforming – their price is distorted by the market’s need to buy them.

According to Fund Performance analyst Morningstar, nearly 250 existing funds were rebranded as ESG, Green, Socially Responsible or Sustainable in the last quarter of 2020. New funds claiming ESG credentials outnumber unbranded firms by at least 10 to 1. Only an idiot would try to finance any new business or project without first carefully outlining its ESG credentials.

There are estimates that over $500 billion of “green/sustainable bonds” will be issued this year. When the European Union recently launched a new social-bond programme to help European Nations recover from the coronavirus pandemic, the press release contained a paragraph about how the funds would be used, and 3 pages explaining how the social impact of the programme would be measured and delivered.

A somewhat bemused UK Government Debt Management Office found itself issuing the first Green Gilt (UK Government Bond) earlier this year – largely because some cabinet minister thought it would be a great idea for the UK to jump on board the bandwagon. I doubt any senior banker, financial or debt management official believes that calling Gilts “Green Gilts” will fundamentally change the UK. Yet the deal was a blowout success as investment managers loaded up to meet ESG quotas.

ESG is morphing into an ill-informed plethora of rules and opinions presented as irrefutable facts.

The variation between what is and what isn’t ESG is often contradictory: one fund will rank a corporate on its gold-star ESG list while another will place the same name on its worst list. It’s not unusual to discover oil majors as large holdings in ESG Funds.

ESG Funds often cite a well-known electric car maker as a core ESG holding, praising it for initiating the shift away from petrol. That firm has a history of spats with the US regulator, bought $1.5 billion of Bitcoin on a whim, is led by a cannabis-smoking CEO who recently changed his title to Technoking, has a poor workplace record, and advocates mining lithium (which is mined in appalling conditions and is almost impossible to recycle). That firm fails every Environment, Social and Good Governance test – but it’s still worth more than the next 5 largest automakers – begging the question of whether ESG investment principals can really direct the market.

A whole industry certifying ESG credentials has sprung up. The nomenklatura of market bureaucrats who administer, report and measure performance want regulations and rules to benchmark and justify their ESG decisions, and the regulators are only too willing to provide them and demand they are enforced. The European Union’s 600-page SFDR (Sustainable Finance Disclosure Regulation) came into effect in March, and it’s a great substitute for any sleeping pill.

Rules and regulation are seldom a problem for Corporate Finance Desks: rules exist to be tested, arbitraged and broken.

Don’t misunderstand me – I am convinced the global economy has major ESG problems to address – but they need to be addressed holistically and sensibly, not in a welter of claims about what is and what is not ESG.

There won’t be much point in saving the environment without simultaneously solving for growth, society and equality. There has to be an agreement on how to allocate scarce financial resources between public goods like infrastructure, transport, health and education versus the investment returns the market seeks from private investments into businesses and commerce. That’s a pretty wide agenda.

Nearly 250 existing funds were rebranded as ESG, Green, Socially Responsible or Sustainable in the last quarter of 2020.

Now we’ve reached a stage where there is a danger of ESG mutating into something very sub-optimal – threatening to distort the efficient allocation of capital in the financial system. In addition to the sudden legion of experts in the field, two other trends are underway:

  1. Authorities seek to regulate and control the ESG behaviour of the economy – and nothing is so certain to distort markets and decrease economic efficiency as ill-conceived regulation, and
  2. ESG has morphed from being a framework into a quasi-religious crusade, dictating how companies and economies should fit. To question the precepts of ESG, however wrong-headed these are, has become a heresy – punishable by exclusion.

The ESG agenda has quite rightly become all-pervading in markets. It should be about a discussion on investment aims and objectives and the creation of a stakeholder society between government and markets. But rather than promoting discussion, it could become the financial equivalent of “Wokery”. Just as we all fear to offend society’s Woke Collective Mindset, there is a growing reticence to question the developing ESG scripture on what is green, sustainable and socially justified.

Increasingly, it feels like ESG is heading the same way as the woke discussion: telling us what to think, rather than guiding us how to think about how financial markets could improve our planet, economy and society for the benefit of all.

Ill-informed and ill-considered ESG investment rules could prove as distorting to global markets as anything I’ve seen over the past 35 years – which includes multiple Central Bank and government monetary and fiscal policy mistakes, incorrect assumptions about liquidity, leverage, credit and expectations driving multiple market crashes, and financial skulduggery that would make even Lex Greensill blush.

ESG is still an opportunity for success. Government needs to set the agenda towards a stakeholder society that answers the distribution of resources to ensure a sustainable environment and social equality, but when it comes down to the business and commerce aspect of that trade-off, and the role of markets, then there is a simpler solution – Good Corporate Governance, the most neglected ESG principle.

Through 35 years in financial markets, I’ve learnt a simple very basic truth: any firm which is not well managed… will ultimately fail. Any firm that is well managed with clear governance isn’t guaranteed success – but is far more likely to thrive. Good, well-run companies will tend to do the right things. In contrast, firms that are beholden to bad regulation tend to fade into irrelevance.

It’s time to put ESG back on the right track.


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