The optimistic origins of sustainable finance

Greenwashing and finance – Part 3: the concept of materiality has enabled the PRI to convert a majority of investors.

On November 29, the Building Bridges Summit in Geneva will bring together bank executives, our local authorities, UN Deputy Secretary-General Amina Mohamed, Federal Councilor Ueli Maurer and a host of experts in responsible investment, ESG analysis, impact measurement, development finance or green bonds. Geneva will then be “the capital of sustainable finance” and the pioneers in the field will be able to measure the progress made. As this event reflects, sustainable finance has become mainstream. How did we get here?

In the XXand century already existed investment approaches integrating social and environmental considerations: ethical, community, social, socially responsible, green, microcredit investment. These approaches based primarily on moral considerations have long been considered niche.

In 1999, at the Davos Economic Forum, UN Secretary General Kofi Annan invited the private sector to adopt principles of social and environmental responsibility, to align with the values ​​of the United Nations but also to sustain a global market. open. Thousands of companies responded to this invitation by adopting the Global Compact in 2000.

On April 27, 2006, the creation of the Principles for Responsible Investment (PRI) was celebrated on the New York Stock Exchange.

This movement has also affected the world of finance. In 2003, freshly arrived in Geneva from Australia, James Gifford proposed to Paul Clements-Hunt, then director of the United Nations Environment Program Finance Initiative (UNEP-FI), the idea of ​​”principles allowing large pension funds to orient their role as universal investors towards UN standards1.” It made sense: in fifty years, institutional investors, including pension funds, have become the main holders of assets, owning 60 to 80% of the securities listed on the stock exchange. They invest for the long term in all sectors and their interests may be affected by environmental degradation and social instability.

As Paul Clements-Hunt told us in an interview for the CAS Sustainable Finance at HEG Geneva2: “The objective was to open the discussion with long-term investors, such as pension funds, and invite them to consider sustainability as a strategic and material element for their investments, rather than as a moral duty or an act philanthropic. The PRI are optimistic and aspirational.”

In 2004 and 2005, reports on the effect of social, environmental and governance factors on economic variables (materiality) were commissioned from banks and asset managers; the concept of ESG factors was forged; a law firm was commissioned to redefine the fiduciary duty of asset managers in light of the risks posed by climate change; and the major pension funds of the planet have been approached by Kofi Annan. Bingo. On April 27, 2006, the creation of the Principles for Responsible Investment (PRI) was celebrated on the New York Stock Exchange. Today, the PRI have been adopted by thousands of institutions managing more than half of global assets, and sustainable investing accounts for 37% of assets under management worldwide according to the Global Sustainable Investment Alliance.

Downside? Ransom of glory? The reproach of greenwashing, of bluffing, weighs today on the shoulders of the promoters of sustainable finance, as we have seen in the first articles of this series.3. To better understand this criticism, let’s review the different approaches to sustainable investing, starting with those that are most used in terms of assets under management:

The overall preferred approach is ESG integration, ie the consideration of ESG factors in traditional financial analysis. This approach is at the heart of the argument of the Principles for Responsible Investment, and its success is also that of the United Nations, at the initiative of the PRI. It is dominant in the United States and ranks third in Europe. His weaknesses? It does not seek to generate a positive impact, and it does not require moral intent since it is based on the idea of ​​the materiality of ESG risks in the long term; this lack of moral intent leads to a widespread suspicion of greenwashing towards ESG integration. His strengths? For Aniket Shah, head of ESG at Jefferies: “Our economic system has never cared about negative externalities. ESG has made it possible to educate investors on these material risks in an effective and unprecedented way. Think that now the Fed is subjecting its wallets to climate tests! ESG has undoubtedly been central in the socialization of these types of ideas.”4

The main strength of exclusion is that it allows the investor to clearly express a moral choice.

Second most popular approach (and first in Europe): exclusion. It is the oldest form of responsible investment, first affecting “sin stocks” such as alcohol, tobacco, gambling or pornography, and also applying today to fossil fuels (divestment movement). The main strength of exclusion is that it allows the investor to clearly express a moral choice. Its major flaw is an impact that is difficult to pinpoint. Disinvestment on listed markets leads to transfers of shares between investors but does not directly affect the company concerned. This makes Larry Fink, CEO of BlackRock, leader in index management and supporter of shareholder engagement, say: “Divestment from fossil fuels is greenwashing.”5

Shareholder engagement, precisely, is the third most widespread approach in the landscape of sustainable finance. This involves influencing companies on ESG issues through the exercise of shareholder voting rights and dialogue with management. The strength of this approach is its pragmatic nature, its search for concrete improvements and the potential for influence created by bringing together the voices of multiple shareholders. We can cite for example the work of Ethos in Switzerland, the Climate Action 100+ coalition, or the recent campaign of the hedge fund Engine No 1 which convinced the majority of ExxonMobil shareholders to appoint three climate defenders to its board. administration. Its weakness, or its challenge, is again the question of the impact on the real economy. For Gianfranco Gianfrate, professor of finance at the Edhec-Risk Institute: “All major asset managers practice a form of greenwashing. They want the widest possible investment universe, and do not want to divest but to ‘commit’. Commitment is a perfect procrastination tool.”6

The remaining approaches, namely best-in-class, thematic investing and impact investing, are less prone to criticism of greenwashing. It must be said that they are more ambitious in the way they use ESG criteria at the portfolio construction stage, seeking to channel capital flows towards companies that have adopted sustainable business models. These approaches are growing, although their volumes remain modest compared to ESG integration, exclusion and engagement. We bet that these more ambitious approaches will be highlighted during the Building Bridges week from November 29 to December 2.

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