ESG - 17 Years in Making and More to Come

ESG is the most used and arguably the most abused acronym in today's investment space; it has pitted economists and business people against one another, it can easily be both discussed rationally and argued emotionally in the same conversation, it's been interpreted both over broadly and too narrowly; it’s been analyzed and appreciated by risk experts, misunderstood by less experienced general investors; and sometimes deliberately twisted and politicized as a “leftist agenda''. Recently it generated a political? “anti-ESG” movement.

The genesis of #esg is rooted in the challenge that the UN Secretary-General Kofi Annan issued in 2004 to major financial institutions, urging them to find ways when making financial decisions, to take risks into account that are not traditionally? captured by financial statements or built into capital market decisions. Included in these risks were such external factors? as environmental, social and governance concerns.

In response to this challenge,? two landmark studies were presented:? “Who Cares, Wins” initiated by the UN Global Compact and the Swiss Government,? and in parallel -? the so called “Freshfield Report” of October 2005 presented by the UN Environmental Programme Initiative UNEP/Fi), which postulated incorporating these “non-financial” factors as relevant to financial valuation. These two reports created a foundation for the launch a year later of the PRI:? the Principles for Responsible Investment PRI at the New York Stock Exchange.

Have you ever wondered where these three letters, which pack so much powerful emotions around their content, came from? As it turns out, the group behind the Freshfield Report was most likely the first one to coin the phrase that we know today as the ESG. The initial view of the group was that it should be called GES, to reflect the “G-governance” as the most important area holding together the entire framework.

However, during deliberations, the group? felt that the name GES is "not so catchy, not so sexy”. Starting with G for “governance”, these deliberators thought, projected a boring, unimaginative image.??

Thus, the “letter game” was played.?

Apparently the letter? E for environment projected more energy and had more appeal than the letter G for governance. It was believed that the letter S, which challenged the notion of then-prevalent Milton Freedman “shareholders supremacy” doctrine (year 2005), was “most likely to be flicked off to the end by Fredmanesque lobbysts” and therefore needed to be “protected” by being squeezed into the middle of the acronym.?

Three simple? letters put in a specific order have changed forever the direction of investing. They created foundations for #responsibleinvesting space, which is on the rise globally, with assets under management having surged from $30.7 trillion in 2018 to $35.3 trillion in 2020, according to the Global Sustainable Investment Alliance (#GSIA).

The authors of the 2005 Freshfield Report have never anticipated all the reactions that these three letters will unleash, movements they will inspire, industries and companies that will create. Even though the principles of ESG as the #riskmanagement methodology have been more widely accepted, 17 years later, they still evoke controversies in the investment community, in business, and lately - in politics and culture.

The latest pushback against the adoption of the ESG framework by big institutional investors, has turned into a vociferous anti-ESG movement that labels entities, whose asset managers or lenders, include ESG principles in their strategic decisions as #woke companies.?

Prominent politicians, including the governor Gregg Abbott of Texas, governor? Ron DeSantis of Florida and other Republican contenders have been targeting businesses such as #BlockRock or #StateStreet for their endorsement and adoption of ESG. Anti-ESG activists have employed the phrase of #wokeness as an epithet, and even as a political threat against companies in their own states, most notably Disney in Florida.? As of November 1st, 2022,? 17 states had proposed or adopted legislation seeking to ban state investments in “woke” companies.?

Curiously, when checking under-the-hood of the “new” anti-ESG movement, it does not look to be so new after all. Direct and material connections between the climate denial movement of 2004, then supported by Phillip Morris and Exxonmobil, and current “anti-woke capitalism” tactics, now funded by billionaires such as Bill Ackman and Peter Thiel, are clear and well documented. These not-so-new anti-ESG sentiments and actions boil down to an old playbook of disinformation campaigns and knee-jerk false denials of climate risks posed by the fossil economy. The goals of anti-ESG advocates are short-term profits from enterprises unwilling to invest in transition into clean economy, at the expense of efforts to attain societal goals such as lowering pollution, improving public health, addressing ever-more frequent extreme weather events - goals that the ESG proponents contend - will enhance profits rather than reduce them in a long run, and often in a short run as well.

Compressing the last 17 years, climate deniers 2004 evolved into anti-ESG movement 2022.? But, as Prof. Witold Henisz of the Wharton School’ ESG program “Climate risk is investment risk. There is no credible other side, only an ideological opposition cynically seeking a wedge issue for upcoming political campaigns”.

Michael Bloomberg, the billionaire Chair of the Task Force on Climate Related Disclosures (#tfcd), openly and unapologetically characterizes anti-ESG campaigns as motivated by crass political aspirations; he specifically disparages the ambitions of post-Trump Republican leaders who are jumping on the anti-ESG platform.

“E is for Enough” - Bloomberg responds to political assaults on ESG investing. ?ESG is about risk and capitalism, he argues.? "Critics call it 'woke capitalism.' There’s just one problem: They don’t seem to understand capitalism. And flogging ESG is not only a terrible economic mistake. It will be a political loser, too."

To return to Prof. Witold Henisz: “Proponents of climate change and more sustainable investing need to plan and execute their counterattack. Silence, in the face of such an attack, is complicity”.

As of November 2022, the US is in the midst of mid-term elections with ESG/anti-ESG becoming one of the issues in political campaigns. On this backdrop, the US? Securities and Exchange Commission (SEC) is in the process of regulating ESG disclosures with the goal to bring standardization, accountability and transparency into public markets, and to synchronize the US framework? with the EU ESG directives.?

These are rather dramatic events that the authors of the Freshfield Report did never anticipate 17 years ago for their three-letter acronym. There is undoubtedly more to come.