As usual, I take time out on the first of each month to give Gail Bradbrook, co-founder of Extinction Rebellion, a platform to talk. This month, Gail has made connections with a disgruntled investment professional who has worked extensively in the ESG field (Cass, Andrew!) who wants to tell some hard truths about the (un)reality behind much of this industry. Andrew has the follow to share…
Global bank’s sustainability chief lets the cat out of the bag, by Andrew Cass
Back in May, HSBC’s head of responsible investing, Stuart Kirk, gave a speech “Why investors need not worry about climate risk”. If you’ve not seen this, follow the link. It’s 15 minutes. Don’t worry, I’ll wait or you might like to read Chris Skinner’s take and reaction here and others here.
Complaining that “there’s always some nut job telling me about the end of the world”, Kirk told attendees at the event that “climate change is not a financial risk that we need to worry about”. Other choice quotes include “there’s always some nut job telling me about the end of the world” and “Who cares if Miami is six metres underwater in 100 years? Amsterdam has been six metres underwater for ages and that’s a really nice place.”
That’s the head of responsible investing. Just imagine what the irresponsible investing guys are like.
Kirk was suspended following a tidal wave of disapproval from his peers in the industry, with HSBC distancing itself from the presentation. But Kirk isn’t an aberration, and there was more than a sniff of the Claude Raines about the reaction. I say this as someone who’s been in the investment industry for two decades, much of that working on sustainable investments, often known by initials ESG – environmental, social and governance. Over that time, ESG investments have grown exponentially, while atmospheric CO2 climbs ever higher, and the world heads closer to 2 degrees hotter than pre-industrial levels, and more.
At some point, we’ve got to recognise ESG just isn’t working.
Before we get into the guts of why I think Kirk is no aberration, and why he throws an important light on the fatal flaws of ESG, I’ll take a little time explain what ESG is. If you’re already familiar with the concept, skip to the next section.
Sustainable investments account for more than a third of global assets under management. Methodologies to calculate ESG assets vary widely, with some already passing $50trn, but a widely used more conservative estimate from Bloomberg Intelligence last year reckoned ESG would top $50 trillion by 2025. ESG assets were $35 trillion in 2020, up from $30.6 trillion in 2018 and $22.8 trillion in 2016.
There’s no set definition of ESG, although there are a range of ESG investment approaches: Integration is probably the most common, “incorporating ESG information into investment decisions to help enhance risk-adjusted returns”. That sounds vague because it is – often intentionally so. Engagement, where investors attempt to pressurise the companies they invest in to improve specific ESG metrics, is also widely used. This may yield nothing … but at least you tried.
There’s also negative screening, where fund managers exclude certain securities or sectors, and positive screening, where portfolios are constructed from ‘best in class’ securities. That can and often does include ‘best in class’ oil and gas companies.
It’s all a bit wild west. That’s not necessarily a bad thing, as fund managers and investors use a variety of strategies to attain different goals with their investments. But there’s also a lot of smoke and mirrors out there.
In response, governments and regulators are moving towards a more clearly defined approach. The European Union’s Sustainable Finance Disclosure Regulation (SFDR) is one example. The UK is developing its own regulation, slightly lagging the EU, but the result will likely be broadly similar. Richard Murphy argues that climate change reporting is not possible if the companies creating emissions do not have to report the cost to them of eliminating them (and he has a proposal for how this might be done).
SFDR categorises funds as either having sustainable goals (Article 9 funds); or that promote ESG characteristics (Article 8). Article 9 funds you can think of as dark green and Article 8 as light green. But even the dark green funds are often simply chock full of tech stocks. One of the largest, with nearly £6bn of assets, has its top 10 holdings dominated by Amazon, Google, Meta, Microsoft and Apple. Spoiler alert: Jeff Bezos is not going to save the planet. Making consuming as easy as possible when we need to consume less cannot be seen as planet friendly. He and his company provide the profits that boost ESG fund returns by forcing employees to piss in bottles rather than take toilet breaks. That’s quite a loose interpretation of ‘socially responsible’.
ESG funds are often benchmarked against a low-carbon index, weighting to low emitters relative to the standard equivalent of that benchmark. I have yet to meet anyone in the industry who can convince me that such investment will finance the transition to a sustainable economy. Ultimately, they just mitigate the risk of exposure to heavy CO2 emitters.
The exaggerated claims of ESG fund managers are often called greenwashing. Research organisations such as Influencemap do an excellent job of exposing asset managers’ greenwashing claims, as does former head of ESG at BlackRock, the world’s largest fund manager, Tariq Fancy. But my point isn’t that ESG is a strategy that can be fixed by flushing out the errant greenwashers. It’s that it is inherently flawed because it subordinates its (often worthy and honest) goals to the logic of the market.
The failing god of the market
Kirk may, as he says, “believe the science”, though he’s got such a funny way of expressing it, I do wonder as to whether ‘the science’ in question is from one of those crank ‘research’ bodies that brief against Extinction Rebellion and are bankrolled by the oil majors rather than, say, the Intergovernmental Panel on Climate Change (IPCC). But let’s give him the benefit of the doubt.
The debate isn’t whether Miami will be the New Amsterdam (I thought New York had already been there, done that). It won’t, and much of the world is on the way to being uninhabitable. It’s what we need to do to mitigate this, and what’s blocking this. After all, the science has been understood for decades, the warnings from the IPCC and other eminent scientists ever more urgent. Those, I presume, are the ‘nut jobs’ Kirk is referring to who are ‘trying to stop him doing his job’.
Given how far we are behind realising the objective of limiting warming to 2 degrees, let alone 1.5 degrees, we have to ask why.
One thing Kirk uses as a ‘gotcha’ is that markets aren’t pricing in the risk of the sort of devastating climate change the IPCC is pointing to. To market fundamentalists such as Kirk, this is what markets are for. So, if it’s a choice between the science being wrong (whatever he says), or markets, well…
What this shows is the limits of what standard financial data shows you… and how bad people that make their living using it are at recognising that.
Price-earnings ratios show you x, EBITDA shows you y. And so on. So, when Kirk says “the market agrees with me”, that tells you absolutely nothing. Why should we believe a financial market can put a realistic value on the collapse of food chains or rising sea levels, any more than it could anticipate COVID or the subprime crisis of the noughties? It’s not what financial data, and the markets from which we abstract them, are for.
And as others have pointed out, there is a deep misunderstanding of risk management, and an unresponsiveness by finance, to the difference between a crisis (which is cyclical in nature) and a collapse (the current trajectory of civilisation).
If you want to know the dangers of climate change, maybe—and I’m going out on a limb here—look at climate change-based research? Maybe ask a climate scientist? Better still, ask a whole bunch of the world’s top climate scientists. Fortunately for us, they’ve already told us—repeatedly, in the form of the increasingly alarming IPCC reports.
The more important point is, even if he does agree with it, he can’t afford to act on it. As he says, climate change is a long-term risk, while his bank’s average loan book is just seven years. So, not the bank’s problem.
That’s why he’s right when he says the markets agree with him. And they do, because they’re working on the same short-term logic. One hundred metres away from the precipice, and everything’s fine; 80 metres – all good; 50 metres… and so on. Inductive logic tells you it’s all great, so it will always be great. Until you hit the cliff edge, and plummet screaming to a messy death. This is how markets behave. “As long as the music is playing, you’ve got to get up and dance,” Chuck Prince, the CEO of Citigroup famously commented. Famous, because just after that came the global financial crisis.
But it’s all good, because the all-seeing, all-knowing market agrees with Kirk. Relax everyone.
One obvious response is that, while the results of climate change may be in the far distance for wealthy white men such as Kirk, they are a clear and present danger for much of the world’s population. But, let’s be honest here, they don’t count: from US slavery, through the Irish potato famine to the collapse of societies such as Iraq or Libya, they never have and never will. Profit comes before (all but the richest) people. And you don’t change that by reversing the priority, because profit comes from people: prioritise the 99% and bang goes your profit.
Is he wrong on the time scale, though? For most investments, no he’s not. I’ve heard it argued that investment that will really move the dial isn’t the short-term stuff that Kirk is sweating. It’s the terrain of long-term institutional investors such as sovereign wealth funds and pension funds with really long-term investment horizons, through asset classes such as private equity or private debt, implementing strategies with quantifiable ESG impacts (hence the term ‘impact investment’). There’s a certain validity to this, and huge pension funds such as the US’ Calpers or Japan’s GPIF have done some good work here.
But, ultimately, whatever the timeframe, the investment must make money. If you can’t justify it to your investment committee or your trustees on that basis, it doesn’t happen. A private equity fund’s internal rate of return may stretch to over a decade, but it still has to be positive – and generally positive by a long chalk – in order to justify that investment.
What’s an investment for? It’s a very one-dimensional thing: you put money in to get more money out. More accurately, to get more money out than you would at a risk-free rate – which is typically cash or government bonds. Market economies – capitalism – are a self-expanding pot of money. No-one invests to make less money.
What ESG does – has to do – is therefore to make saving the planet conditional on making a profit. It’s an inescapable logic. As the philosopher Frederick Jameson has said, it’s easier to envisage the end of the world than it is the end of capitalism. And that’s no longer an intellectual puzzle but a practical reality. (More information on the clash between current economic shibboleths and a planet with a future is here).
He’s behind you
We love our financial pantomime villains: the rapacious hedge fund and private equity managers, sociopathic investment bankers and so on. For a brief few days in May, it was Stuart Kirk’s turn to get the boos and catcalls from the cheap seats. There will be others, and they, like Kirk, will be thrown under the bus with much pearl-clutching and tutting.
But Kirk isn’t a bad apple. He’s not a bug, he’s a feature. For all the good people working hard in ESG – and there are many – they can do no more than apply the brakes to a juggernaut that is premised on systemic profit growth that is antithetical to a just transition to a sustainable world.
To further expend this panto villain metaphor: there’s a tendency to view ‘finance’ as the guys in the black top hats, twiddling their moustaches and laughing maniacally, with ‘industry’ the fair maid tied to the train tracks. If only we could free her, and get back to honest toil. This is nonsense. On a personal level, I reckon there’s probably more people working in finance genuinely trying to address climate change than there is in any other sector. But that, really, is by the by. The core problem is that the entire system only exists because profit tomorrow is greater than profit today – it’s like the magician’s apprentice, but the magician isn’t coming back to turn the taps off at the eleventh hour.
If you want to see a just transition… well, you can’t get there from here as the punchline to an old and not particularly funny joke goes. Yes, we should demand greater transparency and stricter accounting for ESG investments. It will make a difference and it is, thanks in no small measure to many of the people who, unlike Kirk, take it seriously. But Kirk got one thing right that these fine folks don’t see: he got that this is not what financial markets and, at bottom, the entire global capitalist system is for.
Profit is killing the planet, and an increasing proportion of the people who live on it. You put people and the planet first, you kill profit.
There really isn’t a middle way. And, as Kirk’s public self-soiling illustrates, expecting those people making a killing from profit—swanning up in their private jets to Davos and COP—to make the right decision is pretty much a guarantee that it won’t happen. No demon ever cuts off its own claws.