ESG+ Newsletter – 13 July

Nature restoration to the fore in latest EU regulatory push

After much debate, a razor thin majority in the EU parliament passed the EU’s Nature Restoration law yesterday, as covered in The Guardian. While the final text was watered down on certain points, it will place nature recovery measures on 20% of the EU’s land and sea by 2030. Opposition from the European People’s Party, which argued the law was a threat to food security, had almost seen the proposal defeated completely; however, an open letter signed by 6,000 scientists had highlighted studies that pointed to improved food security and job creation before the vote. With the EU’s environmental committee set to thrash out the finer details of the law in the weeks and months ahead, the final impact of the vote on investors and companies has not yet been fully formed. What is clear though, is that nature – including biodiversity and deforestation – is likely to be the subject of further regulatory pushes in the years ahead, raising the pressure on companies to demonstrate how they are mitigating their impacts on the natural environment in a similar way to GHG emissions and climate change.

Widening of the net on climate reporting and proposals

As reported by Responsible Investor, members of the French National Assembly have tabled a proposal to amend the Commercial Code and make Say-on-Climate votes mandatory for listed companies. Under this proposal, shareholders would have the opportunity to vote on the company’s climate and sustainability strategy every three years, or earlier if a material amendment to the strategy is made. They would also have the opportunity to vote on the implementation of the strategy every year. This resembles the UK votes on directors’ remuneration policies (binding) and remuneration reports (advisory), though under the French newly proposed rules both votes would remain advisory. ESGToday also reports that Singapore’s Accounting and Corporate Regulatory Authority (ACRA) and Singapore Exchange Regulation (SGX RegCo) have proposed new reporting rules, requiring public and large private companies to provide climate-related disclosure aligned with the new ISSB disclosure standards. Under the proposed rules, all listed issuers would be required to provide climate-related disclosures beginning in fiscal year 2025, with non-listed companies with at least $1 billion in revenues beginning in fiscal year 2027.

While French and Singapore companies may be subject to mandatory Say on Climate votes and reporting, respectively, ESG votes are becoming more frequent through investor action in Japan, according to another Responsible Investor article. In 2023, a record number of climate proposals were filed by shareholders in Japan. In the past, shareholder resolutions in Japan were mainly filed by domestic non-profit organisations. This is changing, however, with large European investors starting to file proposals, overcoming the complex process for foreign investors that wish to file proposals at Japanese companies. Despite backlash from some parties, regulators and investors are ploughing ahead to ensure companies are disclosing all elements of risk and opportunity, both financial and ‘non’ financial.

TCFD monitoring to be transferred to ISSB in 2024

The International Sustainability Standards Board (ISSB) is set to take over the monitoring of companies’ reporting based on the recommendations of the Task Force on Climate-related Financial Disclosures (TCFD) starting in 2024. More than 3,800 organisations are now supporters of the TCFD recommendations, including more than 1,500 financial institutions that are responsible for $217trn in assets. The handover of duties signifies a noteworthy progression in the further merging of sustainability reporting guidelines, which comes after the release of the ISSB’s worldwide standards for sustainability and climate reporting just a month ago. With the higher clout of the IFRS behind it, we envisage far greater scrutiny of company reporting, with the requirements to be able to claim a report is “TCFD aligned” subject to a much higher bar.

With growing focus on ESG, rating agencies under the microscope globally

ESG ratings are an integral part of corporate reporting given their use by investors, both around investment on direct engagement. However, the ESG ratings industry is relatively fragmented, with each entity designing individual indices and methodologies, resulting in a lack of comparability and uncertainty as to how final decisions are arrived at. Governments across the globe recognise this gap and are looking to regulate ESG ratings as a means of raising standards, at least on the face of it.

In India, the Securities and Exchange Board of India (SEBI) announced earlier this month that all ESG rating companies will have to receive certification from the board before they can provide services to Indian entities and disclose their methodologies for all ratings, as highlighted by Business Insider. Similarly in the UK, ESG rating companies will face a new voluntary code of conduct as announced by the Financial Conduct Authority (FCA) covering governance, systems and methodologies aimed at ensuring ratings are transparent and free from conflicts of interest ahead of potential regulations for a sector that channels trillions of dollars in investments. There is a general recognition that ESG ratings are useful in enhancing investors’ access to data and opinions on the ESG practices of investee companies. However, much like proxy advisors before them, regulators seem intent on at least crafting guidance for best practice, or even going as far as mandating disclosure requirements that may serve to clarify differing approaches to evaluating companies for investor clients.

ShareAction guides on responsible investment for asset managers

Responsible investment charity ShareAction is calling upon investors to set “fit for purpose” net zero targets for their portfolios. In the first of a set of technical papers, ShareAction sets out guidance for how asset managers can influence their portfolio companies in order to meet the goal of limiting global warming to 1.5° C. The guidance includes: pushing for a common approach to emissions reporting; greater transparency about assets not within targets; using a reduction in absolute real-world emissions as the primary metric; driving real-world impact by supporting high-carbon companies with their transitions, not just avoiding them; considering geographic and sectoral factors when setting targets.

The paper released this week – “‘How asset managers can set interim net zero targets that are fit for purpose” – is part of a broader series called Responsible Investment Standards and Expectations (RISE) in which responsible investment is described as “a transparent approach, embedded throughout the investment process, that takes the positive and negative impacts on people and planet as seriously as financial risk and return”. ShareAction, like many others, acknowledges that net zero target-setting can be complex and in developing this guidance, hopes to provide a practical framework for investors to be more transparent and set more meaningful interim targets. Interim is the key focus here, as stakeholders regularly struggle to analyse (and criticise) the ambitions of corporates, as targets may be generational and plans to achieve them, relatively fuzzy.

ESG equity market struggles, but broader picture more positive

Market research published this week by both HSBC and Refinitiv has illustrated the continued impact of the politicisation of ESG in the United States. Global equity funds especially, as summarised by Reuters, have suffered, with the three months to June showing rare net outflows – driven by a fifth successive quarter of investors removing funds from sustainable investment products in the U.S.

While equity funds have suffered substantially as an asset class, especially in recent months, ESG-specific products had proven resilient in the face of uncertain market dynamics. However, as detailed in HSBC’s annual sustainable investment survey, the rise in anti-ESG sentiment is having a direct impact on investors, ironically representing a politically driven attack.

The lender’s research, for example, details that fund objectives which state sustainability as a goal have declined to “just under a quarter” from 37% last year. Coupled with outflow data, it is an increasingly uncertain time for the sector. The green bond market has proved far more resilient to the backlash, though, with Refinitiv reporting back-to-back record quarters for sustainable debt issuance. When looking holistically, with the context of equity fund struggles as a whole and considering landmark market-moving regulations such as the Inflation Reduction Act, attacks on ESG may focus on the terms themselves; investments for sustainable activities though, much like the regulatory focus detailed above, are highly likely to keep moving forward.

Investors remain (quietly) focused on climate in the 2023 proxy season

As this year’s proxy season comes to an end, vote outcomes on environmental and social matters across AGMs in Europe, the US and Asia, present a mixed picture. Support for climate resolutions remained stable in Europe but dropped to approximately 10% in the US, as noted by the founder of the NGO Follow This. Although the anti-ESG backlash has dominated headlines and may have impacted investors’ and companies’ strategies, it may also have been overplayed, as noted in a Reuters article. The article notes that shareholders’ expectations from the impending Securities and Exchange Commission rules on climate change may act as the catalyst for stronger action from companies. Interestingly, from the 256 climate resolutions tracked by the NGO Ceres, 80 resolutions were withdrawn in return for corporate commitments, defined as the “quiet victory of the 2023 proxy season”. This year also saw a number of investors divest from companies who stepped back from previous commitments, and where investors noted that “it no longer makes sense for us to engage”. 

ICYMI

• $2trn investor coalition targets tech on mental health and wellbeing – A coalition of 27 global investors representing $2.117bn in assets under management are calling on technology companies to better assess the impact of their products on wellbeing and mental health, or face ESG score downgrades. Marie Vallaeys, an ESG analyst at Sycomore AM and co-chair of the coalition, underlined how “the potential negative impacts of technology on end-user mental health have long been underestimated by companies”, and this now represents “an ESG risk for investors”. 
• Upcoming Changes to ISS’ Environmental and Social Disclosure QualityScore – The Institutional Shareholder Services (ISS) has announced plans to change its methodology for its Environmental & Social Disclosure QualityScore. The revised ISS QualityScore, which will take effect during the third quarter, will revise more than 150 topics and add more than 60 factors in an attempt to improve its measures of corporate disclosure practices and update its materiality assessment. The ISS claims the revisions reflect the increasing demand from investors for more transparent disclosures of material climate risks.
• Chinese onshore green bond quality ‘improving’– Chinese onshore green bonds are increasingly allocating all of their proceeds to green activities, with the consolidation of the regulatory environment in the country expected to drive further progress. Research conducted by Sustainable Fitch found that 78% of all onshore Chinese green bonds issued since July 2022 met the 100% green use-of-proceeds requirement. Jingwei Jia, Associate Director of Sustainable Fitch, confirmed that there have been “noticeable improvements” with regard to the extent to which their proceeds are allocated to green projects. Jia also noted that the price of green bonds will potentially rise further due to the growing ESG awareness amongst domestic private investors and interest from foreign capital in China’s onshore green bond market.

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