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Can we rewrite the rules of green finance quickly enough?

The use of ESG analysis in investment decision-making is still routinely conflated with the measurement of sustainable outcomes. We need a sharper lens.

Rules signage

Image via Shutterstock/Enterline Design

"It’s not easy being green," as Banco Santander’s head of wealth management quoted Kermit the Frog during the opening remarks of last week’s PRI in Person conference in Barcelona. 

That may be. But before you shed a tear, this hasn’t meant that being, or at least presenting, green hasn’t brought in lots of green for asset managers since the now 4,902-strong Principles for Responsible Investment (PRI) signatory community with over $121 trillion in assets under management last convened in 2019. 

The PRI is a United Nations-backed network of financial institutions collaborating to implement its six principles, which the PRI frames as "a menu of possible actions for incorporating ESG issues into investment practice." To be a signatory investor means that, simply put, they commit to adopting and implementing the principles, whose primary purpose is better align investment activity with the broader interests of society.

And demand for ESG-themed investment products continues to outstrip supply. A recent PwC report found that institutional investors overwhelmingly feel that asset managers should be "more proactive in developing new ESG products," even if the shades of green are getting lighter

To be clear, nothing is inherently wrong with ESG funds, or other ESG-inspired financial products such as loans and bonds doing well.

We need to reset the plumbing of the finance sector so that it rewards those investors that have a truly long-term lens — 40, 50, 60 years — like pension funds do.

The core concerns are that, first, the use of ESG analysis in investment decision-making is still routinely conflated with the measurement of sustainable outcomes. For example, when Forbes Advisor’s ESG fund recommendations for December frame the picks as best suited for investors seeking "positive impact on the environment and society" (not what ESG is designed to do). 

And second, that the growth in the climate/ESG/sustainable fund category is not itself a demonstration of progress on what is really at stake — a healthy and liveable climate, brought on by a speedy and just transition to a low-carbon economy. 

In Barcelona, PRI CEO David Atkin posed an off-script question to a keynote panel of global asset owner responsible investing leaders: "What does failure look like?"

The consensus, after a bit of understandable seat squirming and silence, was that it’s just simply not an option — although my guess is much of the climate community outside of finance would say that, in the current paradigm, failure is definitely a potential outcome. 

When I sat down for a conversation with Atkin, I aimed the question back at him.  

"Failure would be not rewiring the way in which the finance industry works," he told me. "We need to reset the plumbing of the finance sector so that it rewards those investors that have a truly long-term lens — 40, 50, 60 years — like pension funds do. So, for me, failure is that we haven't restructured the way in which we're rewarding long-term perspectives." 

Be it the electrical or the plumbing, there was a palpable sense across many conversations I had with asset managers and owners at the conference that it’s high time the rules to the game change. That was refreshing and reassuring to hear. 

To keep up the building analogy, the frameworks for ESG disclosure are getting strengthened. That will undoubtedly help to identify cracks in the financial foundation and provide a blueprint for (lucrative) opportunities to build and rebuild. 

As Tom Kuth, head of ESG strategy-indexes for Morningstar, told me, regulators’ setting of standards for required reporting will afford financial markets a "much better and more useful set of data that’s more complete and comparable, and will address gaps in data and inconsistencies that have bedeviled the industry." 

But robust disclosure can only do so much. 

So long as the financial system remains set up to reward short-termism, then former HSBC Head of Responsible Investing Stuart Kirk’s semi-infamous assertion that investors "need not worry about climate risk" will remain uncomfortably accurate, no matter how much ambition or leadership investors independently demonstrate. 

A more substantive change of the rules to rebalance capitalism — a necessary ingredient for the "enabling environment," in PRI speak, that the finance space needs to deliver on its climate commitments — may be a proximate reality.  

I’ll offer a less quoted Kermit quip to wrap this: "Take a look above you, discover the view. If you haven’t noticed, please do. Please do."

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