The phenomenon of "sustainable" and "green" investing is now well established, and regulators are increasingly tightening the screws on what they perceive as slack branding and sharp practice. A major ratings agency is also weighing into the scene. Here's an overview.
Late in 2021 in my end-of-year musings, I predicted that “greenwashing” – making investments look more environmentally positive than in reality – would become an even more pressing issue, attracting the attention of regulators.
The European Union's markets watchdog, to give an example, is starting to draft a legal definition of greenwashing, mindful of how large sums of investment are now flowing into funds sold on the back of benefiting the planet.
The European Securities and Markets Authority stated last week that it was exploring the topic. Last November, to give another case, the Monetary Authority of Singapore reportedly issued regulations and put in place technologies to crack down on greenwashing. From 2022, banks in Singapore will have to conduct stress tests which include climate-related scenarios while making required disclosures to ensure that they are managing risks related to climate change and other environmental concerns. Regulators such as the Securities and Exchange Commission in the US are pushing for more disclosures about corporate behavior with regard to fossil fuels and other topics.
(This news service has a new program – Wealth For Good Awards – designed to highlight what wealth managers are doing to ensure that environmental, social and governance considerations are being imbedded into their practices. To find out more about the awards, click on this link. Winners, finalists and commended entries will be celebrated in May this year.)
Without hard, consistent rules on what greenwashing is, it is difficult to punish firms for falling short. There have been controversies – last year US regulators reportedly probed Deutsche Bank’s asset management business, DWS Group. The firm’s former head of sustainability claimed that it exaggerated how it used sustainability measures to manage assets. DWS has strenuously denied the claim.
As this writer and other journalists will testify, the term “ESG” (environmental, social and governance) is red hot. It has reached the point where it is downright contrarian, even risqué, for a wealth manager not to talk about the subject. At a time of wealth transfer and change, there's a desire by wealth managers to stay relevant and attract business, especially from younger clients.
Getting this right is a big challenge, however. Funds rating firm Morningstar has reportedly (February 10) removed more than 1,200 funds with a combined $1.4 trillion in assets from its European sustainable investment list after an “extensive review” of their legal documents. Last November, Morningstar published a report following on from the EU’s rules on sustainability disclosures implemented in March 2021. The paper said that the European sustainable fund universe had expanded by 65 per cent between June and September – from 3,730 to 6,147 funds. The FT report last week said that assets under management, Morningstar funds considered to be sustainable at the end of September 2021, tumbled to $2.03 trillion from $3.4 trillion following the adjustment. (This news service has contacted Morningstar to verify the report and add details, and may update in due course.)
Morningstar’s views are important because such firms provide benchmarks and guidance that wealth advisors, helping clients navigate a vast menu of fund choices, rely on. It also casts light on how reliable client reporting is a vital differentiator for wealth manages, and that ESG/sustainable investment ideas add a new layer to this.
In the back of some people's minds may be the worry that just as banks and investors were wrongfooted by allegedly biased ratings of sub-prime mortgages before the 2008 financial crash, bias and conflicts of interest in rating funds as “sustainable” could cause problems down the line. This week, a figure in the investment sector told this news service that a large number of so-called “green bonds” issued by governments and similar entities might struggle to give clients any return because they were sold at expensive levels, riding the wave of enthusiasm about “cleantech” such as solar power. With inflation and interest rates rising, more starry-eyed sales pitches for green bonds may leave some creditors feeling queasy. And regulators have another problem: if “green” investments prove to be a bust or underperform, are such assets “suitable” for retail investors, as regulators require? It is not too much of a stretch to wonder if some “sustainable” sales pitches come close to mis-selling.
Alarms about valuations of “sustainable” tech have been fired from a number of quarters. Last year the Bank for International Settlements, the “central banker’s central bank,” said that there might be a possible “bubble” in cleantech valuations on a par with the levels seen during the 1990s dotcom boom. It is unusual for such a staid body to use terms such as “bubble.”
Demand for information and disclosures remains high. Cerulli Associates, the Boston-based analytics and research firm, has noted that nearly half of asset owners are now asking allocators to report on the carbon intensity of a portfolio and provide security-level exposure to climate risk. Around a third of managers want data in the next two years that includes scenario-testing metrics for climate change. That is a lot of work, and it isn’t free.
With all this noise around ESG, sustainability and “green bonds,” perhaps inevitably, comes potential for abuses. A danger is that if greenwashing isn’t addressed thoroughly, it will derail efforts to harness capitalism to clean up the planet. And with policies such as Net Zero proving a tough political sell at a time of skyrocketing energy costs and question marks about the viability of reducing C02 emissions dramatically, such a derailment will leave a sour taste in the mouth. It is no wonder that regulators are acting.