How can the investment industry achieve ESG clarity?

Confusion in ESG terminologies creates greenwashing challenges for both investors and asset managers, say experts

How can the investment industry achieve ESG clarity?

With the rise in investor consciousness around environmental and social issues, the movement toward ESG investing has gained significant traction over the past two years. But even as investors look for ways to build a greener world, there are still many grey areas to navigate.

That was the consensus among a panel of investment industry insiders convened by Wealth Professional at a webinar titled “ESG Investing - Are we making progress?” last month.

“I think the last 12 to 18 months have been very challenging for ESG, just from a reputational point of view,” said Marcus Berry, vice president and ETF specialist at Invesco. “There's been a lot of misunderstanding and confusion around what it is and what it isn't.”

At the heart of the problem, Berry said, is a lack of clear agreement on definitions. Some see ESG as a way to mitigate regulatory and political risks within their portfolio, while others are taking it as a chance to make a positive impact.

Read more: Has abundance of choice led to ESG confusion?

“For some investors, it's all about ethical investing or values investing. It might be about green investing, or net-zero, carbon-free,” he said. “For others, it is more just about sustainable investing and socially responsible investing. And so it's very hard to just try and come up with a catch-all [definition], which of course makes it very hard for regulators as well.”

There’s been some positive developments in the quest for uniformity, according to Marie-Justine Labelle, head of Responsible investment for Desjardins Investments. She sees some agreement on how to define broadly accepted responsible investment approaches, like ESG integration or shareholder engagement, but noted there’s still a gap in terms of naming ESG products.

“What we now have in Canada is a requirement to have alignment between the name of a product and the principal investment objectives of that product in regulatory filings, and what's being said in the regulatory filings and in the marketing communications,” Labelle said. “The piece we're missing is just the names of the products and how they refer to [different ESG approaches].”

Adelina Romanelli, director of Responsible Investing at SLGI Asset Management, a subsidiary of Sun Life Financial, said there’s been progress in ESG investing, but it still leaves a plethora of terminologies being used without much distinction.

“We essentially are using terms like sustainable investing, responsible investing, ESG, and even [socially responsible investing] to some extent interchangeably, which is causing ambiguity and confusion,” Romanelli said. “To add to that, we have … a rapid rise and a proliferation of products, as well as a tremendous breadth and diversity of products, which only which further complicates the situation.”

To help prevent confusion among investors and the industry, regulators are stepping in to clarify their expectations. As one example, Romanelli pointed to guidance on ESG investment fund disclosure from the Canadian Securities Administrators (CSA) released early this year.

In its guidance, the CSA recommended separating ESG funds into ESG strategies, which complement traditional financial analysis with ESG considerations to drive investment decisions; and ESG funds, where ESG objectives are inherent to the investment strategy itself.

Read more: CSA sets clearer anti-greenwashing guidance for ESG funds

“I think what's wonderful about the segregation is it provides clarity, and it will dictate the questions that everybody should be asking, as well as the type of reporting that we’ll potentially begin to see over time,” Romanelli said.

With more concrete definitions in place, advisors and investors alike will be able to better navigate the landscape of ESG products. Most importantly, it will allow them to avoid risks associated with greenwashing, where a fund manager might exaggerate the positive environmental impact of a particular strategy to appeal to climate-focused investors. Social washing and impact washing have also become a concern over the past few years, as more investors focus on issues aside from climate change and the environment.

According to Labelle, greenwashing has become a more talked-about risk among asset managers. Headlines around the topic gravitate toward deceptive marketing to investors, but she stressed that even well-intended managers may fall into the greenwashing trap if they’re not careful.

“Our retail audience might not be responsible investment specialists, so we have to be careful about how we talk about it and how it will come across,” Labelle said. “We've been working on a guide on common pitfalls to avoid greenwashing, which are mostly around the impact and outcomes of our products. … We're really that doing that work to be proactive in the way that we talk about it.”

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While there are no strict requirements associated with ESG fund marketing at the moment, many serious asset managers see honesty is the best policy against greenwashing. That means giving investors and advisors visibility “under the hood” by giving information about a fund’s holdings, as well as other metrics that indicate where it lies on the ESG spectrum.

“I think transparency is crucial,” Berry said. “Can we [as asset managers] provide them with tangible data, such as the carbon reduction from the portfolio? What is the ESG impact score? … [Does the fund] own energy companies or is it supposed to be fossil fuel free?

“There's no right or wrong answer to that. Some investors actually want to take an ESG approach and still invest in oil and gas companies. For other investors, that’s absolutely off the table,” he said. “As long as there's transparency from that investment product, we're going to continue to make progress [against greenwashing].”