Environmental Social Governance (commonly referred to as ESG), is a growing market set to reach heights of a $50 trillion market value for ESG assets. Rising concerns held by investors for the ethics and sustainability of the company they invest in has made this a crucial factor in decision making. But what does it actually mean? Is it more than just a throwaway word to make firms look better than they really are, or is it an accurate measure of the ethical and sustainable practices firms put into place?
What is ESG?
Birthed from the 1960s movement for Socially Responsible Investing (SRI) and a consistent desire for ethics to be a part of investing, ESG garnered attention after a publication - titled ‘Who Cares Wins’ - from the UN and collaborating financial institutions recommended businesses to be more sustainable and ethical in their practices. Since its release, ESG has seen large growth and now around two thirds of investors take into account ESG ratings when making an investment, making it a pivotal part of modern investing.
ESG measures a firm’s impact on the environment as well as society by considering multiple factors. After these factors are measured, an ESG score is created. Whilst different scoring institutions have slightly different scales, ESG scores typically range from 0 to 100, with 100 being the highest ESG performance. In context, Apple Inc. scores 46/100 on the ESG rating, aligning with the S&P 500 average of 46.1, but below the industry average for both social and governance.
For environment, ESG appraises factors such as carbon emissions, water use and toxic emissions and waste. For social, factors like labour standards, work safety, promoting equality and product safety are considered ; while for governance, ESG measures factors such as tax transparency, business ethics and accounting practices.
Criticisms of ESG
Whilst being a useful gauge of the ethics and sustainability of a business, the limitations of ESG must also be addressed. Firstly, the recent term ‘greenwashing,’ where a company misrepresents their ESG data to appear more sustainable, and thus increasing investment popularity is something that investors need to look out for. For investors looking at ESG ratings prior to making an investment, it would be worth including further research surrounding the data and any claims around greenwashing.
Social and governance factors like diversity and equality can also be difficult to quantify due to subjectivity, leading to potentially skewed ESG scores. Lastly, growing regulations surrounding sustainability and no uniform ESG regulatory framework means that reporting ESG data can be very complex and unstandardised.
Overall, ESG seems to be a positive addition to the information investors can access before making investments. Whilst it has its flaws surrounding regulations, transparency and quantifying data, growing passion for sustainability and ethics will only cause ESG to be improved over time to become a reliable and accurate measure.
Recent News:
In November 2024, BNP Paribas Asset Management has introduced a sustainable forestry fund, aiming to raise $500m for forestry projects like reforestation and management of forests.
Deloitte has introduced compliance tools for the Corporate Sustainability Reporting Directive (CSRD), facilitating the process for companies that are adapting to new and stricter EU sustainability laws.
IKEA has committed $1.6 billion to reduce carbon emissions from its heating and cooling systems in its stores, aiming towards greater renewable energy use.
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