“The term ESG is less than two decades old, but it may already be coming to the end of its useful life.” That’s the opening sentence of the article How ESG came to a reckoning published earlier this month by the Financial Times.
My reaction to that intro? I do hope so!
I’ve argued ESG is a profoundly unhelpful and we are long overdue a better umbrella term for sustainable investing. Using a three-letter acronym to describe an investment process is always going to create confusion. Just think of the number of times you hear people wrongly refer to the ‘E’ as ethical rather than environmental.
Nor does the term ESG do anything to convey what an asset manager is trying to achieve. That’s because considering environmental, social and governance characteristics is a tool to implement a sustainable investment portfolio not a philosophy.
Using ESG to describe an investment strategy is like calling a bicycle ‘a device which contains gears’ − you have no idea whether it will help you travel faster, open a can or drill a hole in a wall.
Confusion creates distrust
This confusion and lack of definition creates other problems. As the article says: “ESG’s critics say some companies and investors are using the loosely defined term to “greenwash,” or make unrealistic or misleading claims, especially about their environmental credentials.”
I can’t emphasis strongly enough how dangerous this is. If your potential customers think that you are a ‘greenwasher’ you have a catastrophic problem because you have destroyed trust. And trust is a binary quality – you either have it or you don’t. Regaining trust is always difficult and often impossible.
It’s not just asset managers which play fast and loose with sustainable investment claims who need pay attention, so too those companies which do everything right. If you fail to explain your purpose, it’s all too easy for a cynical consumer to think a company which is hard-to-understand is hiding something.
It starts with strategy
As the FT article notes, part of ESG popularity is that it has become a ‘catch-all’ term to cover the broad range of different sustainable investment approaches. But investment managers should want to pinpoint exactly what they do rather than use an all-purpose phrase.
You need a clear strategy. For example, do you want to avoid climate-change risk? Or are you a passive manager who is looking to exclude companies with the worst ESG scores and improve the rest? Or are you an impact investor who believes creating positive change is as important as generating good returns?
Communication is the key to success
Once you have determined your sustainable investment purpose, you need to be able to talk about that vision in a way which is going to excite your colleagues and give your clients a ‘lightbulb’ moment. You want them to think “Oh! I understand what you are trying to achieve!”
It’s all about finding the best way to get your employees on board with your investment vision and making the complex clear to your clients. At the moment, however, even the best sustainable investment managers feel too comfortable with industry jargon and scared of using simple language, worried it will undermine their intellectual heft.
Only when sustainable investors start to prioritise purpose and clear communication will the industry be able to slough off the accusations of greenwash. Until then, expect more managers to lose the trust of the clients and learn their lessons too late.