ESG’s rise has spurred debate over its terminology and significance. Experts stress clarity, cautioning against conflating ESG with sustainability. Greenwashing, measurable impact, and aligning financial returns with sustainability remain critical challenges for asset managers.
Participants
- Neill Blanks, managing director, ESG fund research, MainStreet Partners
- James Palman, sustainable investment manager, Gresham House
- Vai Patel, head of responsible investment, Alcentra
- Sam Tripuraneni, head of sustainable investments, Aviva Investors
- Jane Wadia, head of sustainability, core products & clients, Axa Investment Managers
Read the first part of this discussion here
ESG has risen to dominance in the investment management industry. In the UK, the term ESG came to replace ‘socially responsible investment’. But does it really matter what we call it? Since the politicisation of ESG – most notably in the US where ESG attracts vitriol from supporters of the oil industry – it may well matter.
The expert panel convened by Funds Europe and involving representatives from Alcentra, Aviva Investors, Axa Investment Managers, Gresham House and Main Street Partners, deliberated on this question.
James Palman, sustainable investment manager, at Gresham House, pointed out how several terms are associated with sustainable investing, including ESG, sustainability, and corporate social responsibility (CSR).
“Essentially, all these different terms lead toward the same thing because it is all about embedding good business practices and if we can make these discussions a part of our day-to-day operations, then it doesn’t necessarily matter what we call it. It becomes just how we do business.”
Sam Tripuraneni, head of sustainable investments at Aviva Investors, said he thought it important to retain the term ESG in certain contexts. “Ninety-nine percent of asset managers define ESG investing as the consideration of financially material ESG risks in the investment decision-making process, and most asset owners have gone with that. They try to create a distinction between ESG from a risk perspective, to investment strategies that actually target sustainable investments.”
He added: “To put it another way, you have financial materiality on one side, which should be embedded in everything an asset manager does, and then you have the ‘impact’ or ‘sustainable materiality’ side, which doesn’t always need to consider financial materiality.
“If we start saying that ESG is misused and is better being replaced by the term sustainability in every situation, we run the risk of misusing the term sustainability as well.”
This cautionary note emphasised that both ESG and sustainability hold distinct meanings that can easily become muddled.
“There’s a danger that all ESG funds suddenly become sustainability funds, which they are not. So, it’s important that when we use these terms, we are specific about their meaning and implications,” Tripuraneni said.
Jane Wadia, head of sustainability, core products & clients at Axa Investment Managers, agreed, saying clarity of terms will help prevent confusion and misrepresentation in the market.
“When we talk about ESG funds, we’re really talking about the financially material information relevant to investment decisions. That’s not new,” she noted.
A crucial point, said Wadia, is regarding the intentionality behind various investment strategies.
“Sustainable and impact strategies are not philanthropic; they are looking to achieve a financial return while also focusing on sustainability. The goal of transition funds is to support the movement towards sustainability while still delivering financial returns.”
Word relationships
James Palman at Gresham House said there was a hierarchical relationship between sustainability and ESG, suggesting that sustainability could be viewed as an overarching term.
“Sustainability might be at the top level, with ESG defining the various aspects underneath,” he posited. “In terms of disclosure, ESG could serve as a means to delineate how sustainability is reported in three distinct areas.”
Vai Patel, head of ESG at Alcentra, said Alcentra had recently employed the term ‘responsible investment’ as a reaction to the political climate in America (prior to the re-election of Donald Trump). This was because some investors in the US may be “confused by the term and concerned that ESG leads to divestment”.
He added: “This allows us to clearly communicate our strategy. However, we’ve retained ESG assessments as part of our financial evaluation across all our investments—whether they fall under Article 6, Article 8, or Article 9. This is prudent financial risk analysis.”
Where it exists, a lack of clarity not only affects investor understanding but also raises concerns about greenwashing. James Palman said: “We find ourselves trying to label funds in a way that cannot be confused with greenwashing. It is important for investors to know that when we describe a fund as being ‘ESG’, we are being clear that this is from a risk perspective and that this is distinct from investments where the emphasis may be more on positive impact.”
He re-iterated his view that, “at the end of the day, the objective should be to embed sustainable practices into business as usual”, Palman added: “If we can achieve that, then the terminology will naturally evolve to reflect the underlying practices.”
Axa IM’s Jane Wadia said that progress is being made. “As companies increasingly integrate sustainability into their business strategies, we’re seeing a shift in the investment landscape,” she said. “The challenge will be to measure and communicate these efforts effectively, ensuring that we maintain the integrity of both ESG and sustainability as we move forward.”
Greenwashing challenge
Aviva Investors’ Sam Tripuraneni highlighted the difficulty asset managers face in addressing greenwashing.
“While it’s challenging for funds to navigate greenwashing at the product level, the bigger concern is impact washing.” Misleading marketing can occur when funds claim alignment with the United Nations Sustainable Development Goals (SDGs) without genuinely adhering to them. Tripuraneni noted that there is a growing focus on the interplay between risk, return, and sustainability, particularly among asset owners in the Nordics and Netherlands.
Neill Blanks, managing director, ESG fund research at MainStreet Partners, said there is an “alphabet soup of ESG terms” and that confusion stems from the interchangeable use of terminology, leaving investors unsure of what each term represents. The impact on investment strategies can be significant as practitioners strive to communicate their approaches effectively.
Jane Wadia from Axa IM said that the asset management industry must do a better job of linking impact investing to financial returns.
“The narrative has often focused on saving the planet at the expense of returns,” she said. “We need to demonstrate that it’s possible to achieve both financial success and positive social impact.” This reframing is essential to alter perceptions that impact investing necessitates a trade-off between impact and returns.
Measuring impact effectively
Measuring the impact of investments remains a critical challenge for the industry. James Palman at Gresham House, raised concerns about the ability to quantify impact, even in clearly sustainable sectors like renewable energy.
“While we know we are driving positive outcomes, demonstrating that through metrics is another challenge altogether,” Palman said admitted.
A key point raised by Vai Patel was the necessity of proving the additionality of capital in impact investing. “If you’re merely investing in green bonds without influencing the company’s practices, can you genuinely claim impact?” This sentiment underscores the importance of active engagement in ensuring that investments lead to real-world outcomes.
The path forward
As the discussions revealed, clarity and education are paramount in navigating the complexities of ESG and impact investing. The asset management industry must work to differentiate between terms and articulate their intentions more effectively. As the sector continues to evolve, the challenge remains to ensure that investors understand the true value and impact of their investments while avoiding the pitfalls of greenwashing and impact washing.
“I am not sure how 700 data points can be readable!”
Attempts to facilitate the ESG reporting process include the European ESG Template (EET), which is designed to streamline disclosures between fund managers and distributors.
The EET requires product providers to report ESG commitments for their funds at each share class level. The information should enable distributors to see the extent to which a product meets a customer’s sustainability preferences. This includes visibility on how the assets in a product match up with the EU ‘Green Taxonomy’.
The information also helps fund managers estimate their ‘principle adverse impacts’ (PAI) – an SFDR requirement to state the negative effects of investments on sustainability. Fund buyers can use the quantitative data that forms a PAI statement to make qualitative decisions about whether a product is suitable for their ESG aims.
A ”most hated” template
One panellist described the EET as possibly the industry’s “most hated” reporting template. There is frustration with the EET’s practical implications.
Yet its utility is not denied. “Some asset managers do appreciate how important that data is to distributors as well as for themselves,” said Vai Patel, head of responsible investment, Alcentra, and added that the EET – in being machine-readable – reflected a regulatory drive for machine-readable documents to help firms report at scale.
“Machine learning is in greater use now and both the EU and UK regulators have mandated that all disclosure documents be machine-readable moving forward. This is intended to ease the reporting burden for asset managers.”
Jane Wadia, head of sustainability, core products & clients at Axa Investment Managers, said: “The EET has around 700 lines in it and, although I appreciate it is machine-readable, if the purpose is to help distributors report on ESG to their retail clients, I am not sure how 700 data points can be readable!”
James Palman, sustainable investment manager at Gresham House, echoed these concerns, stating that a consumer of the template’s information would “need a university degree” in the subject to interpret relevant data points.
Vai Patel at Alcentra said that in the case of private credit, limited information from corporate borrowers meant only around 10% of data points could be given, which was a disappointment to some investors with private credit ESG programmes.
Nevertheless, he added that initiatives such as the EET that involve ‘data scraping’ – the automated extraction of data from various sources – had reduced manual tasks. “I think data scraping is very valuable. It shortcuts a lot of the historical manual labour that our analysts used to do, giving more time for analysis itself, which is really where the added value is.”
Aided by machine learning
Gresham House’s James Palman agreed and said the industry had been aided by machine learning efficiencies to more quickly interpret data that illuminated potential risks inherent to an investment, as long as the human expertise was present.
But what about the quality of the data that asset managers gather and report, whether through EET or other channels?
Neill Blanks, managing director, ESG fund research at MainStreet Partners, said that a plethora of data points, such as in the EET, can create confusion and inconsistency. “The quality of data can be a real problem because in some cases asset managers may be approaching certain tasks in different ways,” he said.
As asset managers navigate the evolving ESG landscape, they face the daunting task of reconciling regulatory demands with practical realities. The European ESG Template, though intended to streamline the process, has become a source of frustration for many, highlighting the broader challenges of data quality, usability, and effective reporting in the world of sustainable finance. The industry must continue to innovate and collaborate to create solutions that genuinely serve both asset managers and asset owners alike.
There was a consensus among the speakers about the need for collaboration and improvement in the reporting landscape. “The market needs to work through the complexities of the current templates and the expectations associated with them,” said one panelist.
