Investing for the climate
Once upon a time, I couldn’t get excited about sustainable finance. It felt too abstract; too disconnected from the real world; too … finance-y. 🤷♀️😴
But then, a few things happened that convinced me I needed to learn more about it:
My social media filled up with ads for sustainable and ethical superannuation (retirement) funds. 🍀💰
At COP26, a crew of capitalist big-wigs – i.e. banks and fund managers worth $130 trillion – agreed to align their investments with global climate goals. 🤝
Scandalous reports of ‘greenwashing’ – companies and investors inflating their environmental credentials – began to rise, and in some cases, led to dramatic corporate raids. 🦚
So I dug a little deeper, and I’m pleased to say what I found was interesting, kind of hopeful, and relevant. In this Dispatch, I explain the basics of sustainable finance, its promises (more money for the energy transition) and pitfalls (greenwashing), and how policymakers can help the world’s money markets (including your savings) rally behind real climate action.
The below information is for general use only, and shouldn’t be taken as actual investment advice.
In the beginning, there was ESG investing. 🌿
Environmental, Social and Governance investing, or ESG, takes into account impacts that might not be captured in short-term financial results – like environmental destruction, use of forced labour, or dealings with questionable governments. (For the purposes of this Dispatch, I’m focused on the ‘E’ in ESG).
In response to growing demand from climate-conscious investors, ESG funds have mushroomed. 🍄
To make this real for a moment: let’s say I’m looking for somewhere to invest my savings, and I choose a ‘managed fund’. (Equally, I could be shopping around for a retirement/superannuation fund).
The fund is run by an asset manager. Essentially, they take my money and choose which companies to invest in, in order to maximise my returns in line with a set of criteria.
The asset manager may offer a ‘sustainable’ or ‘green’ fund, because they know people like me would prefer my money to be invested in a climate-conscious way.
Me -💰-> Asset Manager -💰-> Companies
The catch: it can be hard to tell whether funds’ green credentials are legitimate. 🧐
At their best, sustainable funds might be investing in businesses that contribute to global emissions reduction, working with the companies they invest in to reduce emissions over time, or both. 🌞
But other funds – who still call themselves sustainable – might be doing much less, for example, divesting from fossil fuels and simply reinvesting the proceeds in low-emissions technology companies.
Problem #1: Divestment is a fraught strategy. By definition, if one investor sells a polluting asset, another buys it. This means less scrupulous players – opaque private equity firms and wealthy individuals, for example – could pick up these assets on the cheap and keep pumping out carbon, with even fewer safeguards than their previous owners.
Problem #2: For a fund manager, getting out of high emissions industries and buying software stocks might be good PR, but it’s not exactly rocket-fuel for the clean energy transition.
A) it doesn’t always help clean energy companies, and
B) high-emitting but unavoidable sectors like steel or concrete need capital to invest in new technologies to reduce their emissions – starving them of finance doesn’t help with that.
Many asset managers want to make their ESG fund offerings legitimate. And even putting ESG aside, asset managers have an interest in ensuring all investments are made with proper visibility of climate risk. (“Climate risk is investment risk,” says BlackRock, the world’s largest asset manager).
Just as it can be hard for you or me to tell whether a fund is greenwashing, it can also be hard for funds to tell if companies are greenwashing. ❎
If I’m a fund manager looking at a range of companies with net zero by 2030 targets, I might not be able to easily tell which are legitimately planning to meet that target (it’s pretty easy to say you’re aiming for net zero, and then do nothing about it). 🎯
Making publicly-listed companies disclose much more information about their climate risk and transition plans can help investors pick better businesses. 📊
In 2017, the Taskforce on Climate-Related Financial Disclosures (TCFD) developed recommendations for policymakers on the kind of information publicly-listed companies should have to disclose, to allow investors to make good decisions vis à vis climate risk.
Since then, a number of countries have introduced regulations based on these recommendations, requiring companies to disclose emissions data, climate risk, and transition plans, which helps investors make better decisions.
Fun fact: New Zealand was – unsurprisingly – the first country to write aspects of the TCFD into law, but many others have followed. 🇳🇿
Fun fact: The proposed new regulations out of the US Securities and Exchange Commission (SEC) would, among other things, require publicly-listed companies with climate targets to detail their transition plans. This aims to expose companies for whom climate targets are little more than window dressing. (It stops short of requiring companies to have a target).
For asset managers, better understanding companies’ plans allows them to take a more nuanced approach than just ‘divesting’. For example, they might choose to fund high-emitting companies – like the aforementioned steelmakers and concrete-churners – if those companies could prove they’re serious about transitioning.
Ok, so we’ve talked about the hero investors. What about the villains who continue to label their funds sustainable on dubious grounds? 🦹♂️
In many countries, regulators are paying closer attention to anything labelled ‘ESG’ or ‘sustainable’ – and this scrutiny is likely to ramp up. 🔎
Recently, German police raided the Frankfurt offices of Deutsche Bank and its asset management arm, DWS. This comes after the firm’s former chief sustainability officer blew the whistle on its shonky ESG practices.
The US SEC – which is also investigating DWS – has reportedly launched a probe into some of Goldman Sachs ESG funds. The watchdog has followed up its climate disclosure rules with an additional proposal for better regulation of asset managers who claim to manage ESG funds.
The UK, New Zealand, and the EU all have disclosure requirements for ESG asset managers, and the Australian Securities & Investments Commission has recently put out guidance on avoiding greenwashing.
The takeaway:
Major asset managers are rallying to ensure their investments align with global climate goals. ✅ Others are using sustainable branding as cover for, well, not a lot of substance. ❎
Better regulation – like mandatory climate disclosures – can help us tell the difference, and better equip investment firms to make good, sustainable financial decisions.
Ultimately, sustainable finance isn’t a substitute for good climate policy.
A carbon price, for example, would incentivise companies to reduce their emissions in a much more direct way – one that didn’t involve relying on consumer demand for green products and investor good-will and competence alone.
Nevertheless, we should be thinking about sustainable finance as a powerful tool in the kit. 🪛🔧🔨
Topical island 🏝
West Virginia vs EPA – The Supreme Court takes on climate action
In a shock to no one, the US Supreme Court last week ruled that the Environmental Protection Agency (EPA) doesn’t have the power to regulate greenhouse gas emissions across the electricity grid – essentially cancelling an Obama-era policy called the Clean Power Plan that never came into effect anyway. 🏭
The new ruling allows the EPA to regulate pollution from individual power plants – which means the agency could, for example, require a particular coal station to install carbon capture technology.
It just doesn’t allow the EPA to do that across the electricity system – which will complicate the Biden Administration’s efforts to clean up the grid efficiently. 😣
Of course, Congress could always decide to broaden the remit of the EPA … which seems … not easy in the current political environment.
Bonus topical island listen: This Financial Times podcast from June tells the story of DWS – the German fund accused of greenwashing.
What in the world 🌎
On the topic of sustainable finance: last year, former almost-US president Al Gore and buddy David Blood launched a new climate-led investment business called Just Climate. Surely a missed naming opportunity for …
🗡🩸 Blood and Gore™️ investments 🗡🩸
Tips? Questions ? Feedback?👩💻 —> isabella.borshoff@gmail.com
(I’d love to hear what topics you think would be useful in a future newsletter, or any follow up questions you have on this one!)