The financial industry has always had an affinity for acronyms, and ESG is one that a diverse group of market participants has readily embraced.
Environmental, social, and governance investing is not an entirely new concept. But the technologies used to develop ESG-oriented strategies have advanced since a small group of institutional and retail investors first sought 50 years ago to closely align their values with their investments. And now this once-niche market segment is opening to a much wider audience.
We at S&P Dow Jones Indices estimate that industrywide assets under management for ESG-focused exchange-traded funds (ETFs) increased to $170.4 billion in 2020 from $58.8 billion the prior year. S&P Global Ratings projects sustainability-linked bonds to surpass $700 billion in 2021, while green bond issuance reached nearly $270 billion last year.
The world’s largest asset managers are taking stronger and more proactive steps through their investment decisions. Companies are recognizing the urgency to set longer-term sustainability targets. Many are learning the financial costs of ignoring ESG issues and the adverse impact this has on key stakeholders, including their employees, customers, and communities—and, increasingly, their investors.
The appetite for ESG investing is international and spreading not only in the world’s most developed financial hubs but also in emerging markets. It’s clear ESG is here to stay and will play a crucial role in the global economy’s path toward recovery from this crisis.
However, the exponential growth has also exposed the gaps in corporate reporting and disclosures, the lack of data standardization, patchy ESG frameworks, and the need for reliable research and analytics to evaluate, score, rank and measure companies’ ESG performance and help investors make informed choices.
For example, an S&P Global Market Intelligence analysis notes that while roughly “90% of companies in the S&P 500 Index publish sustainability reports, only 16% make any reference to ESG factors in their filings—a mismatch between what companies are voluntarily publishing versus what they are disclosing in regulatory filings.”
ESG infrastructure has not kept pace with demand
As a global industry, we in financial services can contribute and offer solutions to develop quantitative and qualitative tools, provide more transparency, and engage with companies to push for timelier and more accessible data. We still have a long way to go in terms of the quality and granularity of social and governance data that are crucial building blocks for ESG performance benchmarking and product development.
Part of the lag in infrastructure has to do with the evolution of ESG. In the past decades, much of the ESG work has been centered on climate change. Landmark policies, such as the Paris Agreement and other environmental regulations, have driven more data disclosure and standardization. These policy and market developments have in turn fueled the rise of financial products to help minimize companies’ carbon footprints. In recent years, though, there has been more focus on social issues, such as diversity, equity and inclusion, human rights, and labor practices, among others. The heightened scrutiny of how companies are addressing social issues has become even more acute in the pandemic.
While capturing and quantifying social-based factors trail environmental and governance data reporting, I’m optimistic that disclosures will improve over time, especially as more companies and institutions recognize that E, S, and G are ultimately interconnected. For example, as companies grapple with climate risks, it’s often disadvantaged and marginalized communities that bear the brunt of the economic impact.
ESG is a game-changer for markets
As stewards of well-known market benchmarks, such as the S&P 500 and the Dow Jones Industrial Average, my organization has witnessed many of the historic shifts in corporate America and global markets over the past century. By designing indices that follow transparent and rules-based publicly available methodologies, we enable companies to gauge their ESG performance against their industry peers.
We also help facilitate the accessibility and democratization of markets through indexing. For example, we created sustainable versions of our most popular and trusted broad-market US equity indices, including the S&P 500, bringing ESG principles to a more mainstream audience.
Meanwhile, global asset managers such as BlackRock, DWS, Invesco, UBS Asset Management, State Street Global Advisors, and Lyxor, as well as exchanges and other financial institutions, continue to develop index-based ESG strategies and launch ESG ETFs and other sustainable investments. These products are used in many ways including saving for retirement and securing financial futures.
We are increasingly reaching an inflection point. Broader consensus is forming around the creation of a more sustainable and long-term market-based framework to anchor a “good society.” While change will not happen overnight, I believe we are moving in the right direction.
We must view ESG as more than feel-good marketing
In 2017, I was fortunate to join the Aspen Institute’s Finance Leaders Fellowship, which was launched as a call to action to finance leaders to redefine financial services’ role in society. That year was a pivotal moment for the financial industry as economies and markets started to gain more solid footing a decade after the Great Recession.
2017 couldn’t be more different than where we are today. None of us could have predicted the staggering human toll of the global pandemic and geopolitical events of this past year alone. But in hindsight, the lessons I learned from the fellowship—on what it means to lead and help create a “good society”—were precursors to the bigger conversations many of us are having today about corporate responsibility and sustainability anchored in ESG principles.
We must view ESG beyond companies simply touting their “green credentials” but also firmly commit to dialogue and action to increase and improve data disclosures. If we want more inclusive, equitable, and sustainable societies, then we must invest the time, tools, people, and resources to help develop and support policies and business practices that look beyond short-term quarterly success metrics.
During my fellowship, I spent a lot of time listening to and learning from various stakeholders and exploring ways to further develop my leadership compass. I don’t presume to have all the answers, but I firmly believe ESG gives companies the tools to tackle the most complex and perplexing challenges of our time while empowering a dynamic, innovative, and inclusive economy.
Dan Draper is CEO of S&P Dow Jones Indices, a fellow of the 2017 class of the Aspen Institute Finance Leaders Fellowship, and a member of the Aspen Global Leadership Network.