Selling ESG on outperformance will damage ESG.on. Iiliiiimulumumulmuiui



I get a great email every morning from Robert Armstrong, who’s an American who’s employed by the FT to punch holes in the paper thin arguments that go for conventional wisdom on things like ESG. I wish I could be so concise and funny – and give his insights.

Everyone seems to be  calling for each other’s views on sustainability, so it’s probably easiest for me to cut and paste this morning’s email and send it out as a blog – as I’m happy for Robert’s conversation with Gillian Tett to speak for the bipolar me on “sustainability”.

This is Robert (not me)

I get a lot of emails about my criticisms of the ESG-industrial complex. This is satisfying: my image of myself is an old man on a dilapidated porch, shouting at the local kids to keep off of his damn lawn. That the kids would take any notice is a nice surprise.

It was especially nice to get a thoughtful reply from Gillian Tett, gold-plated Financial Times superstar and editor of the Moral Money newsletter (sign up here). She started by agreeing with me on several points:

It was always a mistake to “sell” ESG on the basic of guaranteed outperformance, and that there is indeed limited evidence that divestment from companies changes behaviour when capital is so freely available. Critics are also right to note that ESG is creating a gravy train, in some instances.

She then went on to isolate our disagreement as follows:

The rise of ESG reflects a much bigger zeitgeist shift than anything captured by mere acronyms or box ticking. As I stress in a recent book, Anthro-Vision, what is really going on in ESG is a move from tunnel vision to lateral vision. Most notably, in the latter half of the 20th century, business and finance tended to analyse the world just with narrowly defined balance sheets and economic models — and treat social and environment issues as mere “externalities” or “footnotes”.Today, companies and investors think that it is dangerous to ignore those externalities, be that medical risks, social trends, climate change, or the ethical problems around war.

I object to part of this view, but also think that it touches on something very important and possibly true. I think Tett still appeals to the notion, which she says she rejects, that companies that adhere to ESG standards will outperform. What else can “danger” refer to in the context of investors and corporations, if not financial risk? The idea here seems to me that if you ignore “medical risks, social trends, climate change, or the ethical problems around war” it’s going to cost you. And that is the “ESG will outperform” argument.

Now it may be that companies and investors, as a group, underrate certain ESG-linked risks, and that the minority who do appreciate these risks will outperform for some period. Climate change regulation, for example, could be much tougher in the coming years than consensus expects it to be.

But this sort of outperformance, should it occur, will not be a permanent feature of markets. It is not a discount like the ones enjoyed by investors in illiquid assets or small-cap stocks, which are rewards for taking on a certain kind of risk. It’s an inefficiency which should be competed away.

Second, believing in this inefficiency requires you to believe that a bunch of very intelligent, competitive people are underplaying ESG risks, despite huge monetary incentives to pay attention, and despite the fact that ESG is one of the topics that dominates investor discussions. This strikes me as a pretty strange view.

Where Tett may be right is in her talk of “zeitgeist shift”. I don’t think who owns which security has a material, direct effect on how companies behave. Disinvestment does not work like a consumer boycott. But I’m intrigued by the possibility that refusal to invest in certain companies might have an effect on the norms and moral standards that constrain society at large. Maybe ESG usefully promotes certain notions of what is acceptable and unacceptable, and draws moral attention to facts that previously seemed morally inert. I don’t know how to measure, or even describe, such an zeitgeisty effect. That doesn’t mean it’s not there.

Whether the positive impact of such messaging is worth the billions in extra fees pensioners are handing over to ESG fund managers is a separate question.

A second objection to my view comes from a big shot at a large investment fund. It was in response to the scorn I heaped on the Securities and Exchange Commission’s 500-page proposed rule on carbon disclosures. I wrote:

You might well wonder what is wrong with more and better disclosures, which will let investors choose for themselves. But . . . the disclosures will never be enough. The SEC is trying to reduce a highly subjective set of questions where individual judgment is key to a set of binary criteria — a set of boxes that can be either ticked or not by someone building or selling an ESG product.

My money-managing correspondent writes:

Investors want to have a standardised set of metrics to measure exposure to ESG risk factors like carbon emissions, other nastier emissions and water use in order to better assess risk. If for instance we are worried about the imposition of a carbon tax, we want to know the impact on earnings for our issuers. Right now it’s a hodgepodge of different disclosures or lack thereof. [Companies] will logically paint themselves in the best light and the only way to get the disclosures needed to compare issuers and assess risk is through a mandatory disclosure framework. Of course this will require additional expense and will undoubtedly be done in a suboptimal way but it’s better than what we have now.

This is a fair point. I think regulating (for example) carbon emissions is a very good idea. And of course if there is, or is likely to be, a regulation that a given company might fall afoul of, the company should disclose all efforts to avoid that. And the regulation should be designed to force standardised disclosure.

My point is this starts with the regulation. It is not about companies disclosing something they (or BlackRock, the Business Roundtable, the Audubon Society, or whoever) thinks is naughty or nice, and then investors making up their own mind. The law — the democratic process — must lead. The problem is the SEC arguing, as they do, that there needs to be disclosure because “several large institutional investors and financial institutions, which collectively have trillions of dollars in assets under management, have formed initiatives and made commitments to achieve a net zero economy by 2050”.

With all due respect for all the things they are good at, “large institutional investors and financial institutions” are just about the last people in the world I want setting and enforcing environmental standards, just slightly behind my local PTA and only marginally ahead of the board of Exxon.

I am not sure which side of the debate I am on, but am pretty sure this is the debate that matters.


About henry tapper

Founder of the Pension PlayPen,, partner of Stella, father of Olly . I am the Pension Plowman
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