What does ESG mean and why has it become so important in recent years?
Dr Elena Zharikova (EZ): “ESG is an acronym for environmental, social and governance factors that can present both risks and opportunities to companies. Which material factors are relevant are highly individual to each company.
For example, the environmental factor comprises the effects of the onset of climate change. This is something very important to most of our study participants. Carbon emissions is another important aspect, especially for investors. But water scarcity, air pollution and waste also factor in. As far as social factors are concerned, human rights, diversity, data security and of course – driven by the pandemic – labour relations and health and safety are top priorities. In the area of governance, the main issues are the right board composition, independence and board remuneration.”
Patrick Mitchell (PM): “To summarise, ESG actually represents all non-financial aspects. However, over time, we predict that companies will blend ESG with financial reporting.”
Has climate change entered the financial world’s consciousness?
PM: “In 2020, the pandemic has put social factors related to ESG on the corporate agenda. Last year it was environmental issues. We called it the ‘Greta effect’ (editor’s note: after Greta Thunberg, climate activist).”
EZ: “Awareness of climate change has increased greatly in recent years, partly because the effects are becoming more apparent. Even former sceptics are now realising that these problems exist and are demanding solutions.
In the financial sector, companies are now really beginning to realise the impact that climate issues have on a company’s business and how it affects its business model and resilience. Companies are doubly affected: for example, if they do not reduce their carbon emissions, they will get bad press, obviously, but they will also eventually feel the impact on their business operations, for example in the form of extreme weather conditions.” In other words, in meeting ESG criteria, companies are no longer just protecting their reputation, but also their bottom line?
PM: “Absolutely. If companies do not engage in ESG properly, they will be costed out of business. The cost of capital will go through the roof. The banks are already looking at ESG ratings. The worse the rating, the more expensive the loan and they will lose access to the green bond market.
Under proposed changes to the MiFID regime which are likely to be adopted in 2021, all EU institutional investors will also have to ask their clients about their ESG preferences. This will be required by law. And I cannot imagine any millennial or pension fund saying: No, I don’t care about ESG.”
What will be the big ESG trend in 2021?
PM: “Impact investing will grow exponentially.”
EZ: “This is a special form of investing which currently represents a small part of the ESG universe but it is growing steadily. It involves investing in companies that have a measurable impact on environment or social issues, such as access to water, medical care or environmental conditions. Millennials and Generation Z will want to actively invest in companies that make tangible changes. We already see this happening.”