• (https://www.whebgroup.com/wheb-insights/indecisive-dave-and-the-backlash-against-esg/)

    We’ve all met indecisive Dave. He is the one who reverses his opinion to echo whichever of his mates spoke last. Dave’s opinions are infinitely malleable, driven by his desire to avoid conflict and consequently he ends up offering no point of view at all.

    Until recently, ESG advocates had enjoyed a wonderful couple of years. The past few months though have offered more of a test. Like indecisive Dave, asset managers that had previously proclaimed their commitment to ESG, are now wavering.

    BlackRock, HSBC and Vanguard have all seemed to row-back from previous climate change commitments for example. Should they now disavow their previous allegiance?

    Read further

    Author
    WHEB Asset Management
    SRI Interest
    Players - Asset managers
    SRI Interest
    Strgy - Overview
  • (https://www.whebgroup.com/wheb-insights/esg-ratings-a-quick-fix-or-a-bodged-job/)

    The dramatic growth in ESG and sustainable investing over the past few years is now well documented. What was once a sleepy backwater of the financial industry is now very much in the limelight.

    Why this has changed so dramatically is not entirely clear. From WHEB's perspective as a dedicated sustainability-focused investment boutique, they think the primary driver has been the end client. Just as consumers switched to fairly-traded chocolate and free-range eggs in the 1990s and 2000s, so investors now demand portfolios that help drive positive change in the world around them, or at the very least avoid making things worse.

    • Asset managers have been quick to respond to this shift in demand. Since the first quarter of 2021, Morningstar has added 3,450 sustainability funds to its database. Net inflows into ESG funds have been running at an annualized rate of c.24% over the past three years.
    • This compares with just over 5% for the broader market.  Our own asset growth at WHEB has also been remarkable. The strategy had less than £400m invested in it in mid-March 2020. Just two years later it has over three times this amount at £1.4bn.
    • It is perhaps inevitable that this spectacular market growth will stimulate product development that includes funds that only consider sustainability issues in a perfunctory way.
    • ESG ratings, often generated through algorithms or grounded on overly simplistic assumptions, have flooded the market, and provide a cheap and quick way to add ‘ESG’ to a fund label.

    Asset managers that view sustainability merely as a marketing exercise, want a quick and cheap solution to ‘tick the ESG box’. ESG ratings and the investment strategies that rely on this approach may turn out to be less of a quick fix, and more a bodged job.

    Read further here

    Author
    WHEB Asset Management
    SRI Interest
    Communications - Companies <=> investors & analysts
    SRI Interest
    Government - Regulation on SRI
    SRI Interest
    Players - SRI agencies
    SRI Interest
    Products - SRI funds
  • (/images/uploadedfiles/sric_documents/MarketResearch/irri_wp_dataratingsanalysis.pdf)

    Understanding the supply of sustainable investment research

    Download discussion paper from here

    There is a greater breadth and wider diversity of sustainable investment research in the market than most asset managers appreciate.

    Capturing and filtering this breadth and diversity of research (by looking beyond DATA and RATINGS and sourcing ANALYSIS) through robust research selection practices is likely to be a pre-requisite for effective:

    • integration of sustainability factors into investment decision-making and capital allocation by asset managers
    • engagement with companies – particularly on issues that are sector or value-chain specific

    'Integration' leading to investment decision-making and capital allocation is likely to be a critical differentiator between:

    • those asset managers that are using ESG to cover off reputational risk (of their investments and themselves) and
    • those that are investing into a transition towards sustainability

    Equally, competitive differentiation in 'engagement' is progressing:

    • From inputs (effort expended by the investor)
    • Through outputs (corporate response effected)
    • To outcomes (real world impact achieved)

    We set out research identification process that we expect asset managers to follow / to have followed if they are to compete effectively in the sustainable investment market of tomorrow.

    Download discussion paper from here

    Author
    SRI-CONNECT
    SRI Interest
    Players - Sell-side brokers
    SRI Interest
    Players - SRI agencies
    SRI Interest
    Research - practice & techniques
  • <p "="">"'Cause the players gonna play, play, play, play, play, <p "="">... and the raters gonna rate, rate, rate, rate, rate, <p "="">... and regulators gonna regulate .. late ... late ... late ... late <p "="">... and participators gonna participate ... pate ... pate ... pate <p "="">Baby, I'm just gonna shake, shake, shake, shake <p "="">I shake it off, I shake it off" <p "="">Shake if Off, Taylor Swift <p "="">It seems that everyone has an opinion on what ESG ratings SHOULD do and whether / how they should be regulated ... <p "="">... or if you don't already have an opinion, you are asked by everyone who already has an opinion on the matter to form one. <p "="">Why?

    ... but stop!

    <p "="">If you've not listened to Shake it Off recently or watched the video, take four minutes of 'work-life balance' time to do so. The video is fun and funny. It will make your day better; I guarantee.

    Raters gonna rate...

    <p "="">Are you back? Thank you. <p "="">ESG ratings are a product that some providers provide and some investors use and pay for. So long as they deliver something of value to these users (whether that be reputational cover, risk flagging, screening or even investment guidance) ratings will continue to be provided. <p "="">If / when investors stop paying for them; they will stop being provided. The quality of such ratings will always be a function of how much is paid for them (not enough) and how much those clients value quality and accuracy (not enough). <p "="">There is an open market that is adequately competitive with new entrant challengers at both the cost and quality ends of the spectrum => no need to intervene. The customers of such ratings (asset managers) are informed professionals spending their own money => there is no need to intervene.

    ... but regulators gonna regulate ...

    <p "="">However, like Aesop's scorpion, regulators seem determined to regulate ESG ratings. The volume of simplistic (and largely self-defeating) arguments from companies is reaching a crescendo and is now being joined by those who want to use regulation (of ESG ratings) to undermine what they see as quasi-regulation of issues that they don't believe important (like climate change). <p "="">This Kafka-esque coalescence between soft liberals and the hard-right around a tool that has been central to the development of the sustainable investment industry would be deeply depressing ... if either [a] it were likely to be achievable or [b] if it mattered to people allocating capital towards sustainability. <p "="">Luckily, the aim of regulating ESG ratings is not achievable (in any meaningful sense) and - even more luckily - it probably doesn't matter.

    Not achievable

    <p "="">By and large, nobody knows:

    • What an ESG rating (in general or individually) measures
    • How ESG relates to sustainability
    • Whether / how an ESG rating relates to any of the key financial metrics of a company (even in theory, let alone in practice)
    • How they 'should' be used (in theory). (We do know how they are being used in practice; what we don't know is whether the investment logic behind any of the direct users is robust)

    <p "="">If you don't know what you are regulating, it's a long journey to being able to regulate it. <p "="">"... but, Mike, maybe it's just you that doesn't know" <p "="">Possibly but I did spend much of 2020 conducting a globally reaching investor research project with >200 industry leaders ... and they didn't know. What is more, a sizeable majority of the investors didn't care ... which brings me to my next point.

    It doesn't matter (... probably)

    <p "="">Whether or not investors buy ESG ratings is not actually relevant; what is relevant is who these investors are and whether / how they use them. <p "="">Significantly, it appears to be the case that fundamental active investors (who are the marginal buyers and sellers of shares that influence share prices!) with experience of sustainable investment use ESG ratings as one tool amongst many - often for rough-cut screening or risk flagging or as inputs into the early stage of investment research ... but not for final investment decision-making. Ratings are a small part of a process that may ultimately lead to capital allocation. But we must keep things in proportion. (If I were concerned about urban sprawl, I wouldn't be regulating screwdrivers.) <p "="">There is, of course, some direct usage of ratings by passive investors but these cannot - by definition - be the marginal investors that influence stock prices. <p "="">So, it doesn't matter. ESG ratings are only one tool in a toolbox and while they may not be perfect, they do a job and that job is contextualised by other work.

    ... but it might matter ...

    <p "="">If our objective is to maximise the efficient flow of capital towards sustainable industries and away from unsustainable ones, ESG RATINGS and DATA are only relevant at the margin. <p "="">Active capital transfer is undertaken by fundamental active investors. To make such transfers, investors need RESEARCH and ... as we highlight in this discussion paper: Data ≠ Ratings ≠ Research. <p "="">The only respect in which regulating ESG ratings might be relevant / detrimental to the sustainable allocation of capital is if it deflects regulators from fixing other more significant flaws in the sustainable investment value chain. <p "="">(Ask yourself: "What would climate change deniers like sustainable investors to be doing now?" Your answer will probably be: "Wasting time discussing the niceties of something that doesn't actually affect capital allocation")

    So WHAT does actually need fixing?

    <p "="">IMHO, the value chain suffers from 10 fundamental flaws

    • There is clear evidence of market failure in sustainable investment RESEARCH (not DATA or RATINGS) ... which impedes active capital allocation towards sustainability
    • There is a profound and deepening bias TOWARDS systematic data and AGAINST idiosyncratic data ... which a focus on ESG ratings exacerbates
    • There is a lack of clarity about the fundamentals ... for example, the relationship between 'Sustainability' and 'ESG'
    • There is no clear rationale for allocating capital based on an aggregation of E, S & G measures (even though rationale does exist for allocation based on specific aspects of each)
    • Company communications to investors is largely passive and reactive ... which makes the whole process tremendously inefficient and is a breeding ground for misunderstanding
    • Fundamental business context to ratings and data gathering appears (largely) absent ... making it nigh-on impossible to apply appropriate weightings
    • There are inherent conflicts (six in fact) in the use of ratings for both pre-trade analysis and portfolio analytics (NB ... this one is complicated and the vested interests are big and getting bigger!)
    • There is not enough money in the value chain ... to deliver the depth and quality of research that is needed
    • Ratings divergence makes their use for portfolio analytics fundamentally inappropriate
    • The disproportionate growth of passive sustainable investment strategy (relative to active) causes and embeds imbalances in the value chain that inhibit active allocation towards sustainability

    Also...

    <p "="">Sure there are issues (reported) with a lack of transparency in ratings methodologies and conflicts of interest and the understanding of business by ESG analysts and the volume of disclosure required and bias in coverage and the lack of comparable disclosure by companies and the communications between ESG ratings staff and companies ... but these are all easy to fix or can be ignored ... and there is no point fixing them until the fundamental flaws have been addresssed. <p "="">It appears likely that regulators are going to focus on these minutiae so...

    ... participators ...

    <p "="">... you can participate ... pate ... pate in the process of working out what ESG ratings SHOULD be / do, if you want to ...

    ... but I'm just gonna 'shake it off'

    <p "="">... and focus on the things that really matter.

    Go on. Have another listen ;-) Shake if Off 

  • Sometimes, I just get infuriated by nonsense that I read about sustainable investment and ESG.  Sometimes, I need to let out the rage.  So I'm going to keep a list of the most nonsensical things I read repeatedly and welcome additional contributions below:

    • Nonsense #1: "ESG is in everything we do as investors / ESG factors have always been considered in all of our funds"
    • Response #1: Really?!  This sounds very like companies who argued that "we have always been responsible citizens" only to find that the requirement to produce a sustainability report revealed that there were a lot of areas they could improve on.  Any investor making a claim like this should be required to back it up by publishing their latest internal research note on Danone, Ford, GSK or any company on demand to demonstrate how sustainability factors are explicitly valued in analysis.

     

    • Nonsense #2: "We need more granular and comparable ESG datasets"
    • Response #2: Only if you are a quant investor ... and there are very few specialist SRI/ESG quants.  Active investors certainly don't need this and passive investors typically need simple screening not multi-factor datasets.

     

    • Nonsense #3: "The quality of ESG data is a major problem"
    • Response #3: The whole investment business is about pricing and resolving information asymmetries.  This is no different.  Stop moaning and find/exploit information advantage.

     

    • Nonsense #4: "Divestment is better than engagement' or 'engagement is better than divestment"
    • Response #4: Both have merits depending on the situation but both are blunt tools and both are fundamentally worse than investment decision-making that factors sustainability transition into first discussions with companies and then investment-decision-making (not on a policy-basis but on a reasoned investment basis.)

     

    • Nonsense #5: "ESG research provision is turning into an oligopoly"
    • Response #5: Data provision isn't an oligopoly.  At a stretch, ratings could be seen as one. Research is massively undersupplied and needs support.

     

    • Nonsense #6: "ESG"
    • Response #6: Sustainable development imposes six requirements on companies Financial (return to shareholders), Environmental, Social, Economic (support of the wider economy), Ethical & (corporate) Governance.  Why do we use a taxonomy that limits us to three?

     

    • Nonsense #7: "ESG ratings need regulating"
    • Response #7: Sure.  If you think you can actually do it and want to reinforce them with regulatory legitimacy.  The first impact of most regulation is to empower incumbents.  However, as most call for this comes from companies who are not imaginative or brave enough to communicate their sustainability activities to investors in a more sophisticated way, I wish them well in what they ask for.