ESG: tackling the data conundrum
The growing need to incorporate non-financial as well as financial data on companies lies at the heart of the need for improved ESG standards globally. Asset managers are already making significant investment in these areas; 86% of respondents in a 2020 survey have seen an increase in ESG factors being incorporated into investment decisions. Rebecca Healey, co-chair, EMEA Regional Committee and co-chair, EMEA Regulatory Subcommittee, FIX Trading Community, writes
Forthcoming research from Liquidnet Investment Analytics highlights asset managers increasingly using third-party methods to uncover alternative sources of information, ranging from social media sentiment to engagement with universities, via specialist analytics tools and dashboards.
The lack of accurate ESG data and fragmentation of current standards makes it challenging for asset managers to evidence how ESG factors are incorporated in investment decisions; it also increases the risk of ‘greenwashing’. Increasing and often conflicting regulation only adds to this challenge – as it is not just the myriad options currently available, but whether the same classifications can be applied to individual sectors in the same way – different approaches by different firms within individual sectors and different interpretations as to what is ‘green’.
The extent of nervousness about falling foul of ESG is leading to demand for greater company disclosures, extending beyond the immediate financial risk to the hidden risks that may impact future performance as well as the risks from subsidiaries and supply chains. For example:
– Fishing as an industry was once seen as ‘green’ in comparison to meat, yet is now recognised as the largest contributor to ocean plastic;
– Rising water risks exposes clothing companies to future risks of shortages. Planet Tracker cites 740 public companies subject to $66bn of risk which is currently not fully priced in;
– Soyabeans are now recognised as the second-largest driver of deforestation in tropical countries after cattle. ETF indices hold 380 publicly listed companies linked to deforestation largely still hidden from investors, and
– A recent Australian government report highlighted the number of Uyghurs working in factories in the supply chains of at least 82 well-known global brands. The German cabinet approved a law on due diligence to enforce the protection of human and environmental standards in supply chains – globally. Fines for non-compliance could rise to 2% of average annual sales for companies with €400m ($485m) in sales.
These new challenges are more than adequate incentive for investee companies as well as asset managers to address.
Getting hold of accurate information to understand the scale of the issue will be the first step. However, it will be through the work of the industry with regulators in obtaining accurate data and applying this data under global standards that successful ESG investing can best be achieved.
ISO, an independent, non-governmental international organisation, is working towards developing new standards relevant to climate change disclosures and other ESG priorities to automate sustainability-related processes. In addition, the European Commission plans to replace the Non-Financial Reporting Directive with the Corporate Sustainability Reporting Directive using Inline XBRL, which will provide detailed, consistent and comparable data as companies will be required to tag sustainability information to make it machine readable.
The FIX Protocol will be the means in which this data can be passed seamlessly across the investment lifecycle.
By having access to accurate standardised data, asset managers will best be able to objectively assess the material risks. It will be a mix of qualitative and quantitative analysis that can successfully support ESG investments, but access to accurate data will be the bedrock on which to build a sustainable investment future.
Rebecca Healey, co-chair, EMEA Regional Committee and co-chair, EMEA Regulatory Subcommittee, FIX Trading Community