We need to talk about asset managers’ ESG credibility problem

Key points:

• Concerns around greenwashing reflect a degree of scepticism around sustainability claims
• Asset managers should commit to greater transparency in an effort to drive change
• This should help deepen engagement with investee companies, which could accelerate progress towards climate goals

Responsible asset managers may be loath to admit it, but they sometimes face a credibility problem.

In part, this stems from the idea that they could and should be more transparent about what they do, how they do it and why.

Greenwashing is a case in point. For all the millions of words devoted to it, significant instances of greenwashing at a corporate level remain relatively rare. Most issues in the asset management sector revolve, by and large, around the subjective nature of environmental, social and governance (ESG) factors and the definitional uncertainty around what constitutes a sustainable investment.

No-one doubts these are thorny issues that need addressing. There is a reason why regulators are striving to evolve labelling, disclosure and rating regimes to prevent investors buying funds that fail to meet their expectations.

But it is reasonable to ask whether the level of attention greenwashing attracts is commensurate with the size of the problem. If we conclude that most of what we read and see is really about the fear of greenwashing, rather than concrete evidence of it, the answer must be ‘no’.

Why, then, is there such scrutiny? Is it simply because so much regulatory effort goes into reducing the risk of greenwashing? Or does it also reflect increasingly widespread scepticism around asset managers’ sustainability claims?

Holding up a mirror

If sunlight is the best disinfectant, asset managers should accept that as an industry, their record on transparency leaves much to be desired. That has bred distrust. With sustainability becoming a defining feature of the investment landscape, asset managers should take the opportunity to commit to being more open as a core part of their efforts to effect meaningful change.

Providing more complete information to investors should, of course, be one part of this. But addressing the clear mismatch between responsible asset managers and their investee companies should be another.

Today, a basic demand of most sustainability-focused asset managers is that investee companies are open and clear about their ESG strategies and policies. On the whole, most are: They are under pressure from clients and other stakeholders to disclose their carbon emissions, among other things, and recognise the need to show progress. This helps facilitate engagement.

But there is an asymmetry here that risks limiting further advancement. If, for instance, companies fail to set ambitious enough targets or refuse to embed ESG elements into remuneration policies, asset managers can vote against management (or even divest).

The problem is that, generally speaking, asset managers do not appear to hold themselves to the same standard. No equivalent sanction is applied for missing targets. This is problematic when responsible investors are often themselves major organisations with large workforces and significant carbon footprints.

Time for change

Most asset managers have made pledges and commitments to reduce carbon emissions and achieve other sustainability ambitions. For instance, more than 300 organisations are signatories to the Net Zero Asset Managers Initiative (NZAMI), which aims to galvanise the industry to commit to a goal of net zero.

The commitment to NZAMI requires asset managers to report on their actions and update their targets regularly. It also ensures that stewardship is comprehensively implemented. But no initiative in isolation can eliminate the discrepancy between asset managers and their investee companies. They may not admit it, but company executives might well wonder why they face revolts against their remuneration packages while those of their shareholders remain relatively risk-free.                                                                                

It is partly for this reason that AXA IM now includes ESG targets in the remuneration of our senior executives. We believe that aligning compensation with ESG ambitions not only demonstrates a commitment to achieving them, but it also sends a message to investee companies that asset managers are on a similar journey, with shared incentives to deliver meaningful change.

This, to our minds, is a powerful way to enhance dialogue with companies. But it would have an exponentially larger impact if more asset managers would transparently link executive pay to their own ESG policies. Doing so would not only scale up efforts to make and accelerate progress, but help limit backsliding on commitments to ESG targets. After all, excuses will ring hollow if asset managers can point to their own obligations and progress as evidence that ambitious goals can be set and met – or punished if missed.

No margin for error

In many ways, it comes back to transparency. If asset managers are clear about their own ambitions to achieve specific metrics and report regularly on their progress, it can only improve the quality of their engagement. It also removes a reason for investee companies not to strain every sinew to meet key metrics.

This is particularly important now because it has become alarmingly clear how precarious a situation the world is in. The recent landmark report by the Intergovernmental Panel on Climate Change¹  (IPCC) showed in stark detail how greenhouse gases are changing the planet, with its current warming trajectory set to exceed the 1.5˚Celsius temperature threshold set in the Paris Agreement.

From a corporate perspective, the positive news is that most companies, despite soaring inflation and significant market volatility, have not jettisoned ESG initiatives. The ESG backlash in the US has been an unwelcome development, but we can see that engagement more broadly, allied with regulation, is having a positive influence on corporate behaviour.

However, it is increasingly apparent that far more needs to be done and quickly. In response to the IPCC report, UN secretary general António Guterres said: “Our world needs climate action on all fronts: Everything, everywhere, all at once.” Both as businesses and as stewards of capital, asset managers should heed his words and do everything they can to help avert a climate catastrophe.