Taking short positions on ESG non-compliant businesses seen as beneficial
Investors engaged in accomplishing environmental, social, and governance objectives have favoured shareholder activism and divestment as their preferred strategy. However, it may also be beneficial to take short positions on businesses that violate ESG regulations.
James Jampel, founder of the US$700-million hedge fund HITE Asset Management, argues that shorting can be a powerful tool in helping reduce carbon emissions across the economy, reported Institutional Investor. Since it permits investors to avoid the conflict of interest that results from keeping long positions in ESG laggard businesses, it may even be more effective than shareholder participation.
Investors with long positions are frequently required by fiduciary requirements to profit from increasing stock prices, which in Jampel's opinion makes shareholder activism problematic. Investors with shares in companies, he argues, are less likely to embrace ESG regulations that might reduce corporate valuations.
The study of how short sales affect ESG objectives has gained a lot of attention. According to a recent white paper by the Managed Funds Association and Harvard Management Company, short bets can lower capital investment in the most polluting industries by 3 to 8%. The white paper also states that short selling can raise the cost of capital and exert downward pressure on equity prices.
However, not all investors concur that shorting should be included in ESG. Short positions don't give shareholders any direct control over the company, which means they can't be viewed the same as long holdings, according to an MSCI study that was published in April.
MSCI advises investors to declare long and short holdings separately for optimal transparency, even though it didn't completely rule out the idea that shorting could assist businesses' ESG performance in specific situations.
Jampel warns that excluding short selling from the ESG analysis will hurt hedge firms that use long-short strategies.
“Without allowing shorting to count [as ESG], you are discouraging energy market neutral funds from getting capital,” he told Institutional Investor. “And these types of funds have the greatest chance of affecting change with the least amount of risk for the investor.”