The term “greenwashing” is not a compliment. It isn’t supposed to be a good thing.
Greenwashing means the re-spraying of old products and services so that they seem to comply with standards for socially responsible investment. Many investors want to put their money to work in ways that reflect their environmental, social, and governance (ESG) principles. Paying lip service to those principles, though, while watering them down in practice is arguably a sort of fraud, or at the very least a way of taking advantage of an investor’s naivete and of the subjective component of ESG standards and evaluations.
In a well written recent blog post, Amin Rajan, the founder and CEO of CREATE-Research, looks at what the increase in greenwashing tells us about the broader change that has spurred it.
People will only paint their houses green, even in a cheap-and-easy way that will easily wash off in a storm, if they believe that someone, perhaps the nosy neighbors, wants to see that house looking green.
Similarly, it is the speed and scale with which the appetite for SRI funds has grown that in turn has exposed the lack of any accepted definition of what constitutes good corporate behavior, and the consequence difficulty of creating a standardized reporting framework. This situation has created greenwashing on the one hand and a regulatory crackdown, especially in Europe, on the other.
The Silver Lining
Rajan says that the practice and the crack-down have together shifted the burden of proof. “End-investors are becoming aware that product labels can be misleading.” As it they should be. That is the silver lining in the cloud. Greenwashing is a stage through which the growing industry had to pass in order to make its pitch to sensibly skeptical investors.
One promising direction forward, in Rajan’s eyes, involves addressing two issues formerly pushed under the carpets of fund managers’ plushly decorated offices. First, the green funds need to be explicit about the criteria that their portfolio managers use when the three components of ESG point in different directions. What if, for example, a company is strong on the environment, but is not so strong regarding social issues or governance?
A related issue: are there single-issue tests that should be disqualifying? For example, does a certain size of carbon footprint render a company outside the bounds of acceptable investment by a green fund? Regardless of “workforce diversity or community involvement”? If so, what is the shoe size of that threshold foot?
The EU has quite recently developed a “sustainable taxonomy” to address such points, mostly from the “E” side. As to the “S,” the EU refers investors to the ILO Core Labour Conventions.
Rajan finds all this heartening. He concludes his piece with the observation that, given the inexact nature of any screening, greenwashing as a practice can be addressed and minimized, but will not be eliminated.
Schroders is Heard From
Schroders recently had something of interest to say about the “governance” side of the ESG triangle.
A new report from Schroders about rating corporate governance by deliberative means rather than by the quick-and-easy categorizations that are all too common, makes a solid point. Conventional classification proceeds by matching the way a company’s board operates, its size, the prevalence of non-management members, etc., against a local corporate governance code or an international norms-based structure.
The better, although more difficult, way to go might be to look for three outcomes: “business oversight (financial transparency and lack of controversies); strategic oversight (effective capital allocation); and shareholder alignment (protection of minority rights).”
We live in the age of “Big Data” and new sourcing for the flows of data, and these trends, Schroders assures us, can help with a move to a more results-oriented assessment of the G in ESG investing.
Schroders’ work along these lines this far has thrown up some surprises. For example, the presence of an independent audit committee is not a good indicator of effective CG. Who’d a thought?