What is going on with the backlash to ESG?

Environmental, social and governance (ESG) based investing is not a new phenomenon. Rights-based investment decisions have been made for decades, most notably through the Sullivan Principles of disinvestment in the South African Apartheid Regime.

In recent years, ESG has become a top priority for organisations. This is not just because of the personal ethics or morals of their leaders. It is because ESG risks are now one of the largest threats facing businesses, and they can have a significant impact on their long-term performance and profitability, including their ability to raise new capital.

Studies by Morgan Stanley and Vanguard reveal investments based on ESG have either outperformed or performed as well as, non-ESG investments.

According to PWC, ESG’s rise has led to more than $18 Trillion USD in ESG-related assets under management, which is predicted to rise to over $33.9 trillion USD by 2026 – around 20% of all assets under management.

Despite this, the ESG movement has hit a political roadblock in the United States. Alexandra Mihailescu Cichon, Executive VP at RepRisk, a company that helps corporations track their ESG goals told the New York Times:

‘ESG has been caught in the culture war crosshairs in the U.S…It’s become a liberal versus conservative, Democrat versus Republican issue.’

ESG seems to be the focus in another Republican culture war, using a variety of political tools to undercut investment managers’ ability to account for ESG risks.

Prominent right-wing politicians have amplified this backlash. Former Vice President Mike Pence penned a 2022 op-ed in the Wall Street Journal calling ESG a ‘pernicious strategy’ from the ‘woke left’ including ‘an unelected cabal of bureaucrats’ and ‘large and powerful Wall Street financiers’.

In his recent book, Florida Governor and potential Presidential candidate Ron DeSantis attacked ESG, calling for politicians to suppress the influence of ‘woke capital’ and activist corporations, in part by ‘crippling’ ESG.

The backlash has also surged into State legislatures, with several Republican-led States, including West Virginia, Louisiana, and Florida, passing laws to prevent public pension funds from considering sustainability when making investment decisions.

Florida’s changes, announced on December 2022, led to $2 billion being taken out of the management of BlackRock, the world’s largest asset manager, which represents the largest ESG-related divestment so far because of ESG policies.

Texas also passed a law that bans its municipal pension funds from doing business with a list of financial firms and banks that have ESG policies against fossil fuel.
It seems it’s the E in ESG that has caught the ire of the Republicans.

The Sierra Club called this backlash to ESG the latest form of climate denialism.

What about the Republicans in Congress?

Last month, Republicans used their new majority in the House of Representatives, voting to overturn a Department of Labor rule that allows retirement funds to consider climate change and other factors when choosing companies in which to invest.

Following two Democrats voting with Senate Republicans, President Joe Biden used the first veto of his presidency to protect the rule.

The insatiable desire of the Republican Party to attack ESG regulation doesn’t appear to be ending anytime soon, with the formation of a Republican ESG Working Group in the House Financial Services Committee.

This right-wing backlash heralded some success. In December last year, the world’s second-largest asset manager, Vanguard, pulled out of the Net Zero Managers initiative, an industry-wide alliance committed to reducing carbon emissions, after it found itself caught between the pro and anti-climate change sides.

Global business leaders are going to have to skate along a tenuous line of vastly different global ESG regulatory environments if the Republicans gain more power in DC.

Given that the slow bleed of political culture issues into the financial sector is not slowing, the rocket fuel injected into the anti-ESG movement in the US will only hasten the advent of anti-ESG actors here.

And some will have a point. ESG investing is not without controversy. For instance, Tesla was dropped from the S&P 500 ESG Index while six oil companies remained, leading to its founder Elon Musk tweeting that ‘ESG is a scam. It has been weaponized by phony social justice warriors’.

ESG also potentially sets up a platform for ‘greenwashing’ or misrepresenting the extent to which a financial product or investment strategy is environmentally friendly, sustainable or ethical.

Companies have long tried to stay on trend with consumers, shifting priorities and marketing efforts to best fit the current cultural zeitgeist.

Some might just want the benefits associated with externalising their ESG efforts, without the serious work and investment needed to fulfil their claims. ASIC will deal with those issues, but it also leaves the door open for those who reject the purpose of ESG measures.

Despite the significant structural differences in the commercial regulatory environment between the United States and Australia, we remain susceptible to the same political culture wars.

2022 saw a great example of Australia’s robust ESG commitment, with global investment manager Federated Hermes stopping its sponsorship of anti-climate action foundation the State Financial Officer Foundation, after a several of Australia’s largest superannuation funds expressed concern about this relationship.

ESG measures are not slowing down in Australia yet, but business leaders, as well as our regulators, must remain vigilant so Canberra’s relationship with ESG is not soured like it is in Washington DC.