ESG Investing- political ambition and practical reality
The Swiss Embassy is touring the UK to promote the relationship between Switzerland and the UK and to develop further relations within the fields of science, politics, culture, and economics. As part of the programmes, an event was held in Edinburgh, sponsored by the Chartered Institute of Taxation Edinburgh Tax Network and Terra Firma Chambers. This focused on sustainable finance, particularly ESG investment and included a panel discussion and audience Q&A session on the challenges facing the financial sector in the transition to greener investments. The panel included representatives from academia: Dr Nicola Ranger, Head of Sustainable Finance Research for Development in the Oxford Sustainable Finance Group and Professor Nathan Sussaman, the Director of the Centre for Finance and Development at the Geneva Graduate Institute, from professional bodies: Simon Thompson, CEO of the Chartered Banker Institute and Chair of the UK Green Finance Education Charter, and Edward Mustard, Scottish Chair of the Association of Pension Lawyers, and finally from business: Dominic Tighe, Senior Sustainability Analyst with Lombard Odier Group and Linda French, Executive Director of ESG policy and Regulation at JPMorgan Chase & Co, who also acted as moderator for the event.
The event was extremely useful in gaining further insight into ESG investments and allowed me to understand how the transition to a greener financial sector could be implemented. The expertise from the panel brought a positive outlook on what could happen if financial institutions acted now and provided realistic and tangible ways to overcome the challenges faced by the transition to more sustainable investments.
What are ESG Considerations?
ESG criteria are now key considerations within investments globally. Before the Paris Agreement in 2015, climate change and the transition to a decarbonised world were not at the top of any company’s or government’s agenda. However, now sustainable practices are encouraged and are growing in significance. ESG stands for environmental, social, and governance, so investing in an ESG-aligned company should ensure a high standard of social equality and sustainable practices. Although the 2015 Paris Agreement pushed companies and sectors to become greener, COP26 crystallised the minds of businesses to make this push serious. Stakeholders are increasingly pushing for ESG criteria to be met and ensure companies do not try to maximise short-term profits by exploiting human capital and environmental resources. Investors should take a standpoint to consider a long-term view for wider society, even if they do not offer immediate returns.
What is the bigger picture?
In April 2022, the IPCC released its 6th climate change review and confirmed that current mitigation and adaptation plans are not enough to keep temperatures below 1.5 degrees and that human activity is the predominant cause of this. Dr Nicola Ranger noted that at present, policy frameworks are locked into 2 degrees warming and if the 1.5-degree target is to be met, then this requires emissions to be cut every year by the same amount as COVID impacted rates to 2050. The stall seen in 2020, where air quality improved and nature flourished, has, unfortunately, begun to rise. Listening to the science it is clear that emissions need to be drastically cut if we want to protect the planet and future generations from harm. However, the transition also brings potential financial and commercial opportunities. The scale of sustainability is huge as at some point every economic entity will need to add some aspect of sustainability, for example, decarbonisation, net-zero targets, or reduction of waste. If companies invest and act early with climate-related mitigation and adaptation, then the overall costs will be lower and well-managed, and more effective in reducing reduce greenhouse gas emissions and their impact on the environment.
What can be seen day-to-day in organisations?
In a corporate and commercial banking setting, the panel observed that conversations are starting between relationship managers and companies about how the green transition will be implemented within their firms. Within the investment sector, looking at transition risks is becoming standard practice, as high emitting companies will face higher carbon pricing and an anticipated loss of customers, both resulting in lower returns. Stress and risk testing allow investors to see how companies will react to different global temperature increases above pre-industrial level, e.g., by 1.5 or 2 degrees, and highlight how earnings will change in certain transitions. This means that investors can make informed decisions over which companies will perform best in the future, making investments more successful. Additionally, with some companies striving to achieve net-zero, such as Next and Tesco, this is putting pressure on other companies and projects. With more companies taking part in setting net-zero targets, it is a positive push to start a mass movement. Companies should prepare for those firms prioritising ESG factors to become more popular with consumers and investors and, if others do not start their transition, they will find themselves falling behind in terms of growth.
What are the biggest challenges?
The need for companies to have transparency over their sustainability has become huge but with this comes challenges. The UK has taken the lead in pushing for the decarbonisation of companies and has created the world’s first net zero-aligned financial centre which will consist of a Transition Plan Taskforce (1). The Chancellor announced that all financial institutions and companies will need to publicly upload their transition plans. This is hoped to reduce greenwashing (2) and force companies to set out real tangible targets. The first main issue of the transition is compliance and disclosure. The high-level complexity of data collection makes the transition plan a huge task. Standardisation across the industry is needed to understand metrics and data comparably. The EU Taxonomy has started to do this by providing appropriate definitions for which economic activities can be considered environmentally sustainable. With the transition plan set to be rolled out for all financial companies within the next year, this is will create problems for businesses, especially SMEs. Most companies do not have a transition plan, so who will be monitoring and engaging with these companies to help complete the transition plan on time. Additionally, experts on sustainability and ESG will be needed, and smaller companies may not be able to finance this. If they are not provided with professional help, then greenwashing may slip through if not completed to a high standard.
Overcoming these challenges.
In his concluding remarks, Simon Thompson, explained that the capacity and training of individual banking and finance professionals needs to be scaled up. Mark Carney set the 2020 goal of ensuring that “every professional financial decision will need to take climate change into account”. For this to happen, all banking professionals must have various forms of knowledge of sustainable finance and investment. Furthermore, such plans and transition goals can only be met with real support and backing from the UK Government. This is in essence a public good issue, and the government needs to help finance some of the transition to help the financial industry and wider businesses achieve the ambitious targets it has set.
2) Greenwashing- Making false, misleading, or unsubstantiated claims about the positive environmental impact of a product, service or activity.