falling chess pieces
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The king is naked: ESG!


I think it’s time to say the king is naked. ESG (environmental, social, governance), which is one of the acronyms that the world has memorized in recent years, needs to be divided into E, S and G in many respects, separate and singular methodologies for each of them should be determined, and then it should be considered how to bring them together again. Otherwise, this issue, which is of critical importance for the future of the world, will risk falling off the agenda due to very basic conceptual problems.

The criticism has already begun. The war, food and energy crisis, high inflation, economic recession, and liquidity shortages have led to an eye on ESG-oriented investments, which have grown by an average of 8 billion dollars a year since 2018.

By 2025, the size of ESG-focused investments is expected to reach $50 trillion. It’s just the amount that the world’s mutual funds are transferred to ESG-focused investments.

There is also an investment that needs to be made for the transformation related to the climate crisis. The amount put forward for this is approximately $1 trillion annually. I mean, we’re talking about a huge budget; moreover, it is quite stuck in today’s global conjuncture. And of course, where there is big money, big wars are inevitable.

Are ESG funds fragile?

Let’s start with a simple question. You have some savings. As an individual investor, when you invest your savings in any ESG fund, you have the peace of mind of doing something good that will benefit the world while aiming to make a profit, right? In theory yes, but don’t be so sure.

The reason is simple. There is not yet a fully and sharply understood measurement, reporting and impact analysis mechanism on the ESG at the global level. Because of this, there is a confusion.

Why? Because the concept of ESG is multi-layered and complex. How will you do the impact and benefit analysis for the ESG? Measuring emissions and determining environmental impact, or concrete developments on issues such as gender equality and diversity? Or issues that can be quantitatively measured and generally indexed, such as sound governance models and ethical supplier policies?

Well, do you have a singular methodology that can reveal the financial impact of all this? Answer: No, there isn’t. There are rating companies that process ESG data, but they do not have a single commonly accepted indexing method.

When this is the case, there are bubbling conceptual discussions on some fundamental issues. As an example, S&P’s removal of Tesla from the Dow Jones ESG index is a confusing situation. So, how can a company whose business model is based on electric vehicles is excluded from the ESG index because of bad practices against its employees? So, what do we do with fossil fuel companies? Aren’t they already in a conflicting position with the ESG indexes in principle because of their business lines? No, it seems it doesn’t look like that for the rating agencies.

Of course, nobody is in favor of Tesla’s employee discrimination allegations, but; if this is the case, then by nature, the fossil fuel based operations and businesses should directly to be banned from all ESG indices; right?

Once again, and unfortunately, money matters!

In the economic downturn, institutions and individuals direct their investments so that their money does not lose value at least and of course, gains in value. The possible low returns of ESG-focused funds cause a decrease in the interest and tendency towards these issues in such a period.

There are a quiet lot evidence that ESG funds doing badly to investors in terms of return while also having little effect on social good. A recent study of UCLA and NYU found that, global ESG funds have underperformed the broader market by more than 2,5 percent per year over the last 5 years. Can investment managers defend that low performance for ever? Of course not!

On top of that, when gaps in measurement and impact methodologies make it difficult to demonstrate ESG-driven benefits as well as financial return, the business becomes completely meaningless.

Time to embrace the ESG philosophy, not let it go

However, in these matters, it is necessary to take clear forward and fast steps, not indecisive and uneasy steps back and forth. The fact that the world has lost the wind it has caught on these issues makes the troubled situation that is already racing against time even more dark.

It’s time to embrace the ESG philosophy, not let it go. For this, a common conceptual theory should be put forward without delay.

Let me repeat: ESG needs to be divided into E, S and G in various aspects. Separate and singular methodologies for each of them should be determined. Then it should be formulated how to bring them together again.

The corporate and academic world has a lot of responsibility in this regard, if they may…

Reading Advice: ‘Sustainable’ by Terrence Keeley, Columbia University Press

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