Global funds continue to double down on environment, social and governance investments.
ESG-related assets under management will increase to US$33.9-trillion by 2026, up from US$18.4-trillion in 2021, according to a PwC forecast. Despite the trend, accusations of corporate greenwashing, poor data and an overall lack of standardized criteria may have landed responsible investing at a crossroads.
The term ESG first gained widespread attention in 2005, but it is starting to be thought of as “an awkward teenager” in his office, says Kent Kaulfield, ESG markets leader and chief sustainability officer at EY Canada in Calgary.
Within five years, he adds, the term ESG may no longer be used to describe that suite of non-financial reporting items. He expects investors to be more detailed in their asks from companies, and the current state of ESG may not be enough. “I like the notion that ESG is maturing. If you just look at it without the acronym, the fundamentals aren’t going anywhere. In fact, I think they’re increasing.”
A recent trends report from Canada’s Responsible Investment Association (RIA) stated that the sector is at a “critical stage.” It noted that “while investors are less bullish on the rapid growth of responsible investment than they were in 2020, they are also more aware of the urgency behind it.”
The RIA found climate change has increased sharply to become the No. 1 driver behind responsible investment growth, with a desire to minimize risk as the top motivation for considering ESG factors overall in investments. The RIA stated investors are also coming at ESG claims with “more skepticism than ever,” unsure whether the current framework allows for the significant changes needed to make a real impact.
How did the shine come off of ESG for some investors?
The main culprit is greenwashing, a term used to describe companies that are said to be misleading when it comes to upholding their environmental practices. Allegations against corporations, fund managers and financial institutions have been damaging. Participants in the RIA study cited mistrust or concerns about greenwashing as the key deterrent to responsible investment growth.
That concern is a step toward providing more detail in the ESG framework, says Basma Majerbi, associate professor of finance with Gustavson School of Business at the University of Victoria. She points out that ESG considerations, whatever terminology is used, “is more likely to become part of the basics and best practices of making investment decisions.”
Confusion is also an obstacle for some investors, as ESG metrics have yet to be standardized. A study from MIT and the University of Zurich looked at the ESG rating systems of six well-known agencies. Researchers concluded that there was almost no consistency in their assessments, making the evaluations of ESG performance by companies, portfolios and funds precarious at best.
Despite questions about the usefulness of the ESG term and framework, we’re just in another phase of responsible investing, says Tessa Hebb, a professor at Carleton University in Ottawa, who has been studying the topic since the 1990s.
“I think we’re going to keep the broad umbrella of ESG, but the requests that are made of companies are likely to become more tangible but more realistic. In other words, it’s not going to be seen as the cure-all for all of society’s problems.”
Instead, she says ESG in North America might evolve to include elements like “green taxonomy,” which is used in the European Union as a more detailed framework. It defines what can be called environmental, and establishes a scale and terminology such as light green and dark green. From there, the next step is regulation.
“I would call what we’re in the period of refinement,” Ms. Hebb says.