ESG+ Newsletter – 19 September 2024

We begin the latest edition of the ESG+ by looking at what the EU’s new Commissioner designates means for the bloc’s sustainability agenda. The newsletter also reviews the impact of ESMA’s incoming fund name rules; the UK High Pay Centre’s publication of its latest approach to evaluating pay; and, the latest retail investors voting patterns from Vanguard’s Investor Choice proxy voting pilot. Lastly, we look at the growing trend of the inclusion of nuclear energy companies across ESG portfolios. 

Von der Leyen unveils new EU commission team focused on climate and security 

European Commission President, Ursula von der Leyen, has unveiled her new EU Commission team for the next five years, focusing on climate change, security, and competitiveness in response to global and regional challenges. Key appointments include Lithuania’s Andrius Kubilius as the EU’s first Defence Commissioner, tasked with boosting military production in response to Russian aggression. Spain’s Teresa Ribera becomes Executive Vice-President for a Clean, Just, and Competitive Transition, focused on decarbonising Europe’s economy while ensuring competitiveness. Estonia’s Kaja Kallas will oversee Foreign and Security Policy, addressing Ukraine’s reconstruction and broader geopolitical concerns. President Von der Leyen emphasised that climate change is central to all of the EU’s initiatives, framing it as the “major backdrop” for the Commission’s agenda. She also introduced a streamlined leadership structure with six Executive Vice-Presidents overseeing critical areas such as security, democracy, and prosperity. With the war in Ukraine and rising competition from China, the Commission will work to balance environmental sustainability needs and initiatives with economic growth. As the team awaits parliamentary approval, the mix of seasoned leaders and new entrants reflects the EU’s commitment to addressing economic stability, global competitiveness, and sustainable growth in the coming years. 

Three-quarters of Article 8 funds face ESMA rule violations

A Bloomberg analysis recently revealed that nearly 75% of Article 8 funds under the EU’s Sustainable Finance Disclosure Regulation (SFDR) may violate incoming European Securities and Markets Authority (ESMA) fund name rules. These funds, managing about $8 trillion in assets, are exposed to companies potentially linked to fossil fuels, risking non-compliance. Of the 1,602 Article 8 funds analysed, 1,203  are at risk of breaching ESMA’s fossil fuel exclusion criteria, which prohibit funds using terms like “environmental” or “sustainability” from investing in companies deriving significant revenues from coal, oil, or gas. Comparatively, only 15% of Article 9 funds—specifically dedicated to sustainable investments—are similarly exposed. ESMA’s fund name rules, effective from 21 November with a compliance deadline in March next year, require funds to exclude fossil fuel-related companies if they claim environmental or sustainability objectives. Funds using terms like “transition” or “social” face different, less restrictive criteria. Bloomberg warns that many funds may need to rename themselves or divest from non-compliant companies. There is concern that the market could revert to using SFDR Article labels – Articles 8 and 9 – as proxies for fund classifications, a practice criticised by the European Commission. The report also highlights potential complications from the European Commission’s ongoing review of SFDR, which may add further challenges to navigating EU sustainability regulations. 

Fair reward framework adds to UK pay debate

The High Pay Centre (HPC), a think tank focused on remuneration in c-suites across the UK, has released its latest approach to evaluating pay at listed businesses, titled the “Fair Reward Framework”. The tool details the pay policies and practices of the FTSE 100 – initially 65 of the constituents, with the remainder of the index to follow. The HPC review and assessment covers 30 indicators of pay processes and outcomes, including living wage accreditation, tax reporting aligned with GRI, worker involvement in governance and pay decisions, and pay ratios and gaps. In announcing the framework, the HPC stated it expects it will “inform, rather than dictate, stakeholder engagement with the assessed companies.” The tool’s release comes at an interesting time for listed businesses in the UK, with the first nine months of 2024 characterised by vocal concerns over the lack of competitiveness in remuneration for senior executives versus their US counterparts. The impact of the HPC announcement may not move the dial significantly in terms of the debate; however, as companies reach out to shareholders in the coming months and finalise pay decision for 2025, it is worth reviewing the indicators to evaluate where companies may be viewed as falling behind market practice in the views of wider stakeholders and smaller asset owners.

ESG voting policy chosen by 24% of shareholders in Vanguard’s ‘Investor Choice’ pilot 

Launched in early 2023, Vanguard’s Investor Choice proxy voting pilot allows investors to select differing approaches to proxy voting in select Vanguard equity index funds. In 2024, the pilot expanded to include a further five funds with over $100 billion in assets. Around 40,000 investors participated in the pilot this year. As reported this week by Vanguard, among these investors, 43% chose to vote their shares in line with the asset manger’s approach (as would have been the case prior to the availability of selective voting), 30.3% opted to vote in line with management recommendations, 24.4% voted in line with a third-party ESG policy, and 2.3% chose not to vote their shares. Unsurprisingly, individual investors in the Vanguard ESG U.S. Stock ETF and the Vanguard Dividend Appreciation Index Fund were, respectively, the most likely (78.2%) and the least likely (17.9%) to select the third-party ESG policy, reflecting the overall objectives of the funds in which they had invested. Although an indication of underlying investor expectations on proxy voting, the 40,000 investors that participated in the program only represent 2% of eligible investors. While the impact of proxy voting choices for clients of asset managers on issuers engagement priorities and strategies is not fully clear yet, a greater take up by retail and other investors has the potential to fundamentally shift AGM planning for public companies, as their line of sight over expected voting outcomes may be blurred by differing underlying voting policies at their largest shareholders.

Nuclear stocks back on ESG investors menus  

A recent Bloomberg article revealed that some asset managers are including nuclear energy companies as part of their environmental portfolios, with their inclusion likely to fuel debate. As an energy source, nuclear is an attractive option as it produces a significant amount of electricity efficiently and, unlike fossil fuels, nuclear energy doesn’t produce greenhouse emissions during their operation. Vocal critics of nuclear energy believe that the upside does not outweigh the risks. They often cite downside risks to nuclear energy, including several high-profile accidents – such as Chernobyl and Fukushima – which damaged the surrounding environment; the treatment of radioactive waste created by plants; geopolitical risk if a nuclear plant was to fall into the hands of a bad actor; and, the significant amount of investment needed and the longer development timeline than renewable energy facilities. However, asset managers bet on the growing use of nuclear energy would appear to be a shrewd one. Nuclear energy is the largest source of clean power across the US and France, it was included in EU’s 2022 green taxonomy, and at COP28 last year it was acknowledged it as one of the solutions to climate change. 

While the inclusion of nuclear energy in ESG portfolios will likely remain a contentious topic, there is a clear need for zero-emissions electricity to meet the projected rapid growth of electricity demand that is being driven by AI, data centres and the electrification trends across society. Whether Nuclear energy is a part of the solution will depend on investors and governments risk appetite and comfort with investing in this as a source of energy. 

ICYMI 

• Data security has displaced ESG’s top finance leaders’ priority lists as regulatory trends push information security to the forefront, CFO
• The SEC has disbanded the Climate and ESG Task Force within its division of enforcement due to criticism that its focus on sustainability represents mission creep, according to Environmental Finance.