April 19, 2022
Long before policy makers gathered last November for the high-profile COP 26 summit in Scotland, a private-sector movement had been underway to elevate Environmental, Social, and Corporate Governance (ESG) factors into the corporate investment decision-making process. ESG investment, in fact, reached $35.3 trillion by 2020, a growth of 15% over the previous two years.
That’s good news for investors and the environment. As these ESG-infused investment programs grow and mature they will be increasingly defined by both top-down and bottom-up approaches. On one end, governments and international bodies, like the G20 and the G8, will introduce pro-green measures that set standards and goals for a range of initiatives, from reducing the use of coal to pledging to reach net zero emissions by certain dates. On the other end of the spectrum, increasing numbers of individual and retail investors will be increasingly eager to put their money into financial instruments that hold a large percentage of green credentials.
All of these efforts will continue to provide added incentive to banks to fashion ever greener investment products. Indeed, although banks are well known as conservative institutions, these ESG moves can help to transform them into actual agents of change.
To be sure, most financial experts agree that not all ESG investments are created equally, or honestly, for that matter. With such incentives and such an eager and growing investment community, regulators are busy providing tools to ensure such opportunities come as advertised.
A large plurality of ESG investors surveyed by the Quilter wealth management group last Spring rated the challenge of determining whether a company is making false or misleading claims about their environmental credentials, or “greenwashing,” as their top concern. The SEC for its part has created a special task force to uncover ESG-related misconduct as it relates to material reporting gaps or misstatements in issuers’ disclosure of climate risks under existing rules. And on the other side of the Atlantic, the European Union has implemented the Sustainable Finance Disclosure Regulation (SFDR) to standardize sustainability disclosure so that both institutional asset owners and retail clients can accurately compare the sustainability characteristics of green investment funds. The FCA in the UK, quite predictably followed up with its own SDR directives, with a very similar albeit stricter construct.
Such new scrutiny will put the onus on banks to maintain and manage the kind of lineage of information from proving the carbon footprint of its counterparties and loan applicants to the carbon footprint of the investment vehicles which it's using to create green bond-type products for investors.
Additionally, all that data ultimately must get reported back to the regulator, so timely and accurate information thus becomes the glue that binds this emerging edifice. For many however, the data remains elusive. A recent study by the Capital Group found that the lack of “robust ESG data” was one of the biggest barriers preventing investment managers from integrating ESG into their investments in the first place.
For our part, we’ve developed a series of solutions designed to provide greater awareness and visibility of green data for financial institutions. The Sustainable Finance Platform, for example, is built on blockchain and IoT and enables investment managers to aggregate multiple small to mid-sized sustainability projects to be financed using Sustainable Finance initiatives such as Green Loans. And from a monitoring standpoint, once a green project begins generating operational data, the system monitors the performance using IoT devices. This data is then communicated to the platform to be stored and converted into KPIs using blockchain.
On the other hand, the platform also facilitates impact-reporting for Green Bond investors by generating reports automatically with collected data from relevant data sources.
Hitachi is also using other tools in its portfolio to help retail clients mitigate their lending risk by analysing the lessor's ESG behaviours (e.g. EPC ratings); help commercial banks to incorporate ESG factors into their trading decisions; and help clients gain more reporting accuracy when reporting to regulators.
As multiple vendors participate in calculating ESG metrics, and in different ways while using different methodologies, the challenge is to do so in a consistent and accurate way. But those challenges are only compounded by the need to integrate the information from across different vendors and one’s internal reference data on their value chain participants whether they are suppliers, customers, or counterparties.
Although investments in this space have their challenges, it’s clear the future of ESG investing is fertile and has the potential to benefit both people and the planet.
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