It got me thinking about a common narrative in the sustainable finance community regarding what may be the largest investment megatrend of our lifetime — that the industry has a leg up in "getting it right" about biodiversity investments, thanks to precedent and past learnings related to ESG-themed funds.
What can be learned from the recent years of ESG boom — and how its capabilities have been sold in the market and to the public — if it’s to be the "fastest developing ESG theme in global capital markets," as Catherine Howarth, chief executive of responsible investment group ShareAction, put it last September?
We need to get the data right
ESG is about data, and it’s worth remembering that the explosion of ESG-as-a-verb, or "ESG investing," brought with it a 40 percent fee premium over non-ESG funds. But ESG funds 1) don't necessarily mean higher ESG scores for portfolio holdings, and 2) are not predictors of outcomes on issues such as climate impact. Will the same thing happen for biodiversity-related funds?
Biodiversity — as an investment theme — is in search of the right data. Disclosure frameworks such as the Taskforce on Nature-related Financial Disclosures will help corral information stemming from "soil, water, vegetation, species and then the intersection of those things," as Chris Goolgasian, director of climate research and portfolio manager at Wellington Management, shared at the GreenFin 23 event in June.
What’s not clear, however, is what those frameworks and better disclosures about biodiversity metrics will actually do for improving the health and vitality of all those things that fall under the biodiversity-as-noun umbrella — such as interconnected life on earth.
ESG data and ratings, which currently make up much of the decision-making information used in biodiversity funds, are decidedly not about outcomes. They are neither a Trojan horse for the woke agenda nor a solution geared to fix the climate crisis. Their purpose is to support corporate risk management decisions, executed using a body of non-financial data that helps assess long-term financial impacts on companies.
When a large beverage company purchases water rights across a region, that’s great in ESG terms — that organization will have continued access to water, a highly material impact on its business continuity. That action might also make the company a good long-term investment. But it doesn’t guarantee anything positive in terms of outcomes such as the ongoing stability of the watershed or the surrounding community’s access to water.
Given that the ESG moniker is still misunderstood by many investors, there’s a similar risk with the growth of the biodiversity theme. According to a survey of retail investors by the National Bureau of Economic Research, nearly half who buy ESG funds choose to do so for ethical or climate-impact considerations — neither of which ESG funds are designed to capture.
The theory of change needs definition
Investors have a lot to say about the biodiversity investment opportunity; they are eager to invest in companies with exposure to sustainable land-use practices or those capable of tracing their exposure to commodities associated with biodiversity loss, for example.
But they often have less to say about the theory of change behind how those acts of measurement and reporting will lead to measurable improvements to soil health or strategies to revitalize biodiversity, as just two examples.
All investing — not just financing or funds focused on improving sustainability — is largely about information. Getting more of the right type of interpreted and contextualized data is crucial for making broader decisions about investments, even though political forces on the right persist in making a case against that investing norm.
But as Bill Baue, a long-time technical advisory group member of the Science Based Targets initiative, has made the case: Over time, sustainability standards have played “a conservation role of enforcing outdated norms, instead of performing the role one would expect of emergent institutions of stewarding the cultivation of new norms befitting the emerging realities of collapsing ecological and social systems.”
It’s incumbent on investment managers building and selling products to address the biodiversity crisis to be clear on how the data they’re using and the decisions they’re making can translate to outcomes.