ESG and greenwashing: lost in translation

Fiona Frick, CEO - Unigestion

Despite the introduction of the legislation in March 2021, there are still concerns about how the rules are being interpreted by different players. As a result, ESMA has announced it will prioritise the ‘fight’ against greenwashing in its new Sustainable Finance Roadmap, while Morningstar has slashed the list of funds it recognises as sustainable by 27% following additional research on disclosures provided to investors.

And this was before Russia invaded Ukraine and threw a multitude of new questions into the laps of ESG investors: for example, should investors relax environmental policies on fossil fuels given the short-term urgency to cut ties with Russia? When should an investor cut ties with a country? How should one define the trigger for doing so in terms of ESG principles?

These challenges are arising because while greenwashing may appear simple to define (Investopedia states it is ‘the process of conveying a false impression that a company or its products are environmentally sound’), once you dig into the detail, the situation is more complex and, as the Russia/Ukraine war highlights, the goalposts are always moving.

50 shades of ESG and greenwashing

When we started implementing responsible investment considerations in 2004, ESG was more of a niche investment strategy and ESG integration mainly focused on exclusion.

Then attention moved to protecting investments from the financial risks associated with sustainability, with ESG seen through the prism of risk management in order to understand how the sustainability transition would affect the risk and return of an investment. Today ESG, and especially sustainability, also looks to the outside world to interpret how an investment decision either contributes to, or hinders, societal sustainability goals.

So depending where an investor is on their responsible investing journey, ESG will have a different meaning – whether it is exclusion, risk integration or real-world sustainability impact. For example, a company like Tesla could be seen as green if you look at its impact on society regarding climate change but greyer if you look at how the company integrates ESG internally. This also extends to the composition of ESG indices or the definition of ratings – each making a subjective value call on what ESG is.

The same goes for the definition of greenwashing. As there is little consensus on what ESG is, there is little consensus on what greenwashing is. For some, not excluding certain sectors contributing to global warming is greenwashing. Recently, for example, ActionAid Denmark, a non-governmental organisation (NGO), called out major Danish pension funds for the amount they are investing in fossil fuel companies.

We do not agree – we exclude coal companies but still invest in a narrow group of fossil fuel companies with a credible and ambitious plan to transition to clean energy where we can promote and support change. We are conscious this is a judgement call that can contradict others’ ESG beliefs but the key for me is that we are transparent, so clients can decide for themselves.

Judgement calls aside, minimum standards are important and the tougher line being taken by regulators and others is starting to have an impact. Under SFDR, asset managers must now categorise funds as ‘light green’ Article 8, or ‘dark green’ Article 9, strategies, while the SEC in the US has formed an ESG task force that will assess fund disclosure and compliance.

So, it is becoming increasingly difficult for an asset manager to market a product as sustainable if they have only added exclusions-related investment filtering given this would have no real material impact on society. Yet, while minimum standards are being implemented, a “one size fits all” solution is unlikely. However, the closer alignment and transparency around material reporting will lead to greater confidence among investors. It will raise standards and address greenwashing concerns by creating a common level playing field and enabling investors to make more informed decisions – providing they do their homework to find an approach linked to their beliefs.

My hope is that as investors, we can contribute to increase the pace at which environmental transformation is implemented by companies. Moody’s ESG Solutions’ Temperature Alignment Data finds that only 42% of 4,400 companies assessed have set emissions targets. Furthermore, only 11% have set quantifiable, forward-looking targets extending to at least 2030 and only 3% of assessed companies are aligned with net zero by 2050. Clearly a lot remains to be done to make climate commitments a reality and, hopefully, minimum standards for investors and companies will help us move faster on the sustainability path.

And for me, the positive of all these questions on greenwashing is that the debate is no longer about “why” sustainability is needed — but “how” it is implemented it in a truthful, effective manner. That is progress.

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