Clive Waller: The latest scandal proves ESG isn't a fad

Last week, Chuka Umunna was appointed to head up ESG consultancy at Edelman, the communications company.

Last week, Shell announced that it was cutting the value of its oil and gas reserves by $22 billion. A few weeks ago, BP cut the value of its assets by $17.5 billion. This is not just short-term reaction to the coronavirus crisis, but reaction to climate change and the need to cut global dependency on carbon based fuel.

Last week, The Sunday Times published its exposé of Boohoo, revealing both its below legal pay and appalling work conditions, increasing the risk of coronavirus infection. The share price has fallen 35%.

Last week, it was revealed that a major fund manager (Merian) was the second highest shareholder after the owner. The fund manager states that they were one of the first fund managers to understand the importance of ESG. This begs a question or two.

Last week, Motely Fool and Yahoo Finance suggested that Boohoo was now a good buy!

There are still those who believe ESG is merely a FAD, the current cool, maybe woke, trend that will disappear when we get back to normal. Not a chance.

ESG came about in 2004 when the UN Gobal Compact got together with the investment community. They devised PRI, principles for responsible investment, to achieve a more sustainable global financial future.

From the investor viewpoint, and the managers of $80 trillion who have signed up to PRI, the issue is one of risk. If you invest in a company that is forced to write down $billions of assets, the share price falls.

If you invest in a company that mistreats its employees (like Boohoo), the share price falls. If you invest in a company with great policies on recruitment and treatment of staff, shareholders, neighbours, product life cycle, and a great product, the chances are that you will receive a great return. In other words, it's about fear and greed.

The challenge for those promoting ESG investment is transparency and clarity. Why should you believe a manager who says his firm follows ESG principles unless you understand the basis of selection or exclusion of stocks and the source of the data employed? 

Larger asset managers tend to use their own research, often in tandem with data providers such as Sustainalytics, MSCI or Refinitiv. That is not enough. We need to understand exactly how they do it. I have studied the process followed by Refintiv. I am not suggesting it is the right one to follow, but to its credit the process is fully disclosed and transparent.

The crucial message behind an ESG rating is to remember that it should not be judgemental. They may rate an oil company well because it is investing large amounts in non-carbon energy and behaves well in other respects. One analyst said to me: "Our role is to find best in class."

There are those investors who wish to make very specific choices about where they place their money. Some wish to invest in companies that they believe will create a better world, e.g. carbon alternatives or innovate medical products.

Others wish to exclude what they perceive as non-ethical products. This is the most controversial and subjective area. Some will exclude pharmaceuticals because some behave extremely badly - true. Yet, the awareness of the need for drug companies and research has never been clearer than now. Some regard alcohol as unethical, whereas others, like me, regard it as an absolute essential.

What about banks? Do any banks behave well? Yet we need banks.

Sadly, it gets more complex. While some see the big tech companies as great example and all that is good for the future, others see them as beyond the pale. Look to Volkswagen, which was one of the most highly regarded companies in Europe - until they were found to cheat their customers.

Two options

For me, there are two options.

The first is where investors direct their money, following their wishes and helped by their advisers. This could lead to ethical, impact, thematic and similar funds or portfolios. There are fund managers and DFMs that specialise in these products and do a great job.

The second option is to invest across the investment landscape but with a form of screening that removes companies that are behaving badly. I use the present tense quite deliberately, because things change. A good example might be a tracker.

As a passive investor, I do not want to try to pick stock that will outperform, or back stock pickers. However, I would like to exclude the Boohoos of this world. Thus, my ideal fund is a tracker with an ESG screen that removes all stocks with an ESG score below an agreed level.

So, to be, perhaps, controversial, I very much believe in arms companies. I don't want to live in a world where Putin or Xi, for example, can get their wishes because nothing will stop them. I want to invest in an arms business that does not sell AR15s to white supremacists or Al Qaeda terrorists.

I do not wish to invest in a pharma business that buys a patent so that it can jack up the prices tenfold because it can. Moreover, I want the manager to move money as companies change their behaviour for better or worse.

We will not change the world purely by directing our money at nice companies. Indeed, if we cheapen the stock price, we make it more attractive to those without principles. If all nice people sell an arms manufacturer, there are plenty of hedge funds, private equity houses and sovereign wealth funds that will be delighted to pick up the shares at a discount - see earlier comment re Boohoo.

ESG is about rewarding good corporate behaviour and penalising the bad. Hopefully it will lead to a better, nicer world and be a check on climate change.

Very finally, both legislation and regulation will make adherence by business, investment managers and advisers compulsory. It is not a fad.

Clive Waller is managing director at CWC Research

• Tweet  
• Facebook  
• LinkedIn  
• Send to  

• Topics
• Investment