Top 12 Myths about ESG debunked

Since ESG is a fairly new technique used to measure an organization’s performance for Environment, Social, and the Governance within an organization, that is used by investors to gage whether they should invest in an organization based upon its stated values. It does not help that ESG has been politicized by unscrupulous individuals with the intent of having it outlawed in the US so that their own investment firms can then add new clients to their portfolios for reasons of profit.

As a result, some people have a negative view of ESG without really understanding what it is. Some news outlets have perpetuated negative myths about ESG in order to make the public believe that once ESG is forced upon organizations, it will then be forced upon individuals, which will only force them to pay more in taxes.

PSCG has decided to dispel 12 of the most common myths perpetuated about ESG.

Myth #1. ESG is a waste of resources.

Reality: ESG covers an extremely broad range of topics based upon environment, social, and governance, which could lead to organizations giving their attention to areas that do not bring as much value. Having the right ESG proposition provides value. Here are some overall best practices for incorporating ESG into your organization:

• Focus your resources on matters that improve a company’s commitment to sustainability issues that coincides with your stakeholder’s values. Begin by conducting an ESG Materiality Assessment which will help your organization identify understand the importance of specific ESG topics to your organization and your customers, employees, investors, and other stakeholders. The organization can then concentrate its effort on those areas that are determined to be important to stakeholders and also contribute to business success. Start by focusing on a limited number, e.g., three to five, of topics or initiatives, and don’t try to do everything at once. Once this is done, look for areas that your organization is lacking in, and view them as opportunities. Understand that the Sustainability journey is a lifelong process, and every year is an opportunity to improve on your organization’s commitment to being responsible, and a leader in your domain. A look at the 17 SDGs will help a company decide which ones make the most sense for them.
• Link ESG reporting to the organization’s strategy and enterprise risk management (ERM) process. Companies are always wring to improve performance metrics, especially when those metrics and tracked and linked to an ESG Report.  Linking those metrics to the organization’s ERM helps make them relevant and provides additional focus and executive sponsorship. Answering the following questions can help to link ESG reporting with the organization’s strategy and ERM:
• What things will be increasingly important to future profitability?
• What risks would prevent the organization from being successful in the future?
• Is employee turnover, efficiency improvements, or employee health and safety important for your organization’s success?
• Commit to getting value out of the process. Using ESG reporting for only marketing and other external purposes brings limited benefits. This would also be considered ‘Greenwashing’ and will cause a company to lose trust from its stakeholders which will result in a loss of value overnight. Additionally, a company could get audited, and if they are not forthcoming with their ESG Reports and programs as a result, this can cost a lot of money to an organization. Committing to learning from and improving upon the organization’s ESG metrics makes your organization better. That is why anything that is lacking can be looked at as an opportunity. So do not think of it as a negative but a positive. For example, a company has 21% waste, but it is found that through using the concept of upcycling, a company can eliminate waste down to 1%. By reducing waste, not only is the company being socially responsible, but has improved its ROI as well.

Myth #2: ESG is focused on environmental factors.

Reality: Environmental factors only play one part in the total ESG Report.

Though it is true that ESG focuses on environmental impacts of an organization, such as GHG Emissions, this is not the only factor of an ESG Report. Other hot topics are diversity, equity and inclusion (DE&I), and climate risk. One of the most overlooked aspects of an ESG Report is governance. Governance includes such critical areas as risk management, fraud prevention, and oversight of cybersecurity. ESG rating organizations calculate composite ESG scores for companies by using varying weights for ESG components. In many industries, ESG rating organizations often give governance the largest weighting when compared to environmental and social components. Good governance helps organizations capitalize on opportunities and address challenges and risks they may face now and in the future.

With improved technology and data, Governance and Social factors can be measured and positively screened to invest in well-run companies. Certain ESG strategies can filter for companies that demonstrate more diverse boards of directors, greater corporate governance, and stronger business ethics. PSCG believes that these features of companies are more appealing to a broader range of investors because these are concepts that most investors can support, regardless of their stance on climate change or the environment. Consequently, as the number of social and governance related themes continues to increase, more investors can choose to align their values across a broader spectrum of topics.

Myth #3: ESG investing is a passing fad for niche markets.

Reality: Impact and ESG Investing both have grown substantially over the years and are here to stay.

Skeptics of the ESG/Impact investing phenomenon believe that this is temporary and only applies to a niche market of individuals. The ESG movement has been growing substantially over the years and trends show that this will only continue. According to the Global Sustainable Investment Alliance, Sustainable investing assets in the five major markets stood at $30.7 trillion at the start of 2018, a 34 percent increase in two years. Additionally, studies have shown that Millennials and younger investors are twice as likely to prefer sustainable investing. Because Millennials are more concerned with aligning their values and investments, ESG investing will only continue to grow. Moreover, it is estimated that over $30 trillion in financial and non-financial assets in North America will be transferred from Baby Boomers to younger generations. With the growing popularity of ESG investing and the significant generational shift in wealth, it is apparent that Impact investing is not going anywhere soon.

Myth #4: Only millennials and women are interested in ESG.

Reality: Institutional Investors have been leading the charge in ESG investing.

It’s a common stereotype that younger investors tend to care more about the social impact of their investments than previous generations. Research has shown that millennials do indeed factor in ESG concerns more than other investors. For instance, one study found that millennial investors are more than twice as likely (62%) to invest in companies or funds that target specific social or environmental outcomes compared with other investors (31%). Additionally, another study found that 29% of investors in their 20s and 30s prefer to work with a financial professional that offers ESG investing. However, the facts don’t bear out the idea that millennials are the primary investors in ESG strategies. Institutional investors have adopted ESG investments more than any other group. It should also be noted that institutional investors account for nearly three-quarters of the assets managed following an ESG approach. They’ve been leading the charge of ESG investing, while individuals have been slower to adopt ESG strategies.

That does not mean there’s no market for ESG strategies for individual investors. Quite the opposite. According to a Morningstar study published in April 2019, 72% of the United States population expressed at least a moderate interest in ESG investing, in addition, when it comes to men and women investors, this same study found no statistically significant difference in preferences for ESG strategies by gender, as both men and women were nearly equally open to ESG strategies. According to these results, there could be a large, relatively untapped market of individual investors who want to learn more about ESG strategies.

Myth #5: You cannot effectively measure the effect of ESG and Impact investments.

Reality: ESG reporting measurements have increased substantially for publicly traded companies, and private equity Impact Investments are required to measure their social effects.

As ESG and Impact investing assets have increased in popularity, the data, and methodologies of quantifying their effectiveness have improved as well. It is imperative that a company accurately measuring and quantifying the social implications of these investments is paramount to the success and the integrity of the market. Like regular financial disclosures, proper disclosures on sustainability from companies must be complete, accurate, reliable, and consistent. Thankfully, organizations such as the Global Reporting Initiative (GRI), Sustainability Account Standards Board (SASB), and International Integrated Reporting Council (IIRC) are all developing clear reporting standards and approaches to data collection. Recently, the Global Impact Investing Network (GIIN) implemented a new tool called IRIS Plus which provides investors practical guidance on measuring impact with evidence-based metrics that will be most applicable to their strategies and goals. Additionally, in May of 2019, the NASDAQ marketplace launched their new global ESG reporting guide for public and private companies. As more reporting metrics for ESG Investing continues to enter the marketplace, the integrity and transparency for measuring the true effects of these investments will be accurately captured.

Myth #6: ESG/Impact Investing is just a marketing ploy used by asset managers and wealth advisors.

Reality: While this is a serious concern for investors, aligning yourself with the right advisors who have experience in this space is extremely important.

Greenwashing and other marketing tactics are a serious concern and should not be taken lightly. Without the right ethical principles in mind, some advisors may use ESG/Impact investing as a means to market themselves to investors looking to align their values and investments. It is important for investors to conduct thorough due diligence to ensure they’re working with the correct advisors. We believe that advisors who are marketing themselves as ESG/Impact Investors should do so cautiously and without an overbearing nature. Financial advisors should conduct a thorough due diligence process to determine the true impact of certain investments. The true importance of Impact and ESG investing lies within aligning client goals and values with their investments, not a marketing strategy used by advisors to boost assets and revenue. The ESG/Impact Investing world is a complex one to navigate. That is why the right advisor should be able to educate and help investors identify facts and the many misconceptions about ESG and Impact Investing.

Myth 7: There are too many ESG reporting standards and frameworks for ESG reporting to be beneficial.

Reality: Six out of the seven frameworks are being consolidated by the ISSB and the proposed SEC Guidelines.

Currently, there are several different ESG reporting standards and frameworks that organizations are using to report ESG information. However, this number is shrinking. Six of the seven most used ESG reporting standards and frameworks are in the process of being consolidated with the International Sustainability Standards Board (ISSB) or have committed to coordinate their standard-setting activities with the ISSB. This process is intended to bring more consistency to ESG reporting. In July of 2023, the ISSB proposed new guidelines to their current to be used as a means of measuring an organization’s progress. 

On March 21, 2022, the SEC proposed new rules that would require most public companies to disclose their greenhouse gas (GHG) emissions and details of how their business is affected by climate change. The SEC proposed rules align with the climate portion of the ISSB’s proposed standards. These proposed rules would bring increased consistency in GHG emissions disclosures if these rules are finalized. The proposed rules include attestation requirements for these disclosures.

The proposed SEC rules make the reporting of climate data even more critical. With the universe of ESG standards shrinking considerably due to the ISSB consolidation, the process of selecting the proper framework for your ESG reporting is being made much simpler and more relevant to your organization’s needs. This is why PSCG uses a hybrid approach of the ESG Frameworks to fit your company’s needs.

Myth #8:  ESG information isn’t reliable.

Reality:  An ESG Report is only as good as the data provided by an organization.

A report is only as good as the accuracy of the data. Information contained in ESG reports needs to be accurate and reliable since it is used in decision making. This decision making may be internal, e.g., board or management, or external, e.g., customer or investor. Having controls in place for the accurate reporting of ESG information is important, similar to the importance of having controls in place for an organization’s financial reporting.  

PSCG can help an organization in creating a program to accurately measure all of a company’s sustainability plan to ensure that a report is as accurate as possible.

Myth #9: ESG programs negatively impact investment performance & long-term shareholder value.

Reality: Companies that are committed to ESG are gaining competitive advantages in the product, labor, and capital markets.

It is still widely believed that company initiatives to address ESG issues have a detrimental impact on financial returns. In an article for the Journal of Applied Corporate Finance called “ESG Integration in Investment Management: Myths and Realities”, authors found companies that are committed to ESG are gaining competitive advantages in the product, labor, and capital markets, while portfolios that have integrated “material” ESG criteria have consistently delivered investors with average returns that are higher than traditional portfolios while posing less risk.

Many studies have also demonstrated a correlation between strong ESG initiatives & financial performance. According to the CFA Institute, 35% of investment professionals use ESG to increase their financial performance. Between December 2015 and November 2019, an MSCI analysis found that companies with above-average ESG performance had better than projected growth and a lower cost of capital.

A recent report by Calvert Instruments showcased how corporate social and environmental activities can and have led to value creation, such as:

• Companies that can demonstrate financial benefits through environmental measures such as waste reduction or improved energy efficiency have a higher corporate value.
• Risk management may help a corporation protect its reputation while requiring lower returns on capital, impressing, and attracting investors.
• Sustainable business strategies have been shown to attract a more competent and engaged workforce as well as loyal customers.

In a nutshell, companies that dedicate significant resources to material ESG issues have greater profit margins and risk-adjusted stock returns than their peers.

Myth #10: ESG investment strategies eliminate entire sectors.

Reality: ESG can help any company in any sector with its overall performance, making them more appealing to investors.

When it comes to ESG, many people confuse the concept of screening (the exclusion of specific stocks) with ESG integration. This myth is perpetuated by the interchangeable use of socially responsible investing (SRI), sustainable investing, and ESG investing, three investment approaches that are very different from each other.

In general, SRI investors encourage corporate practices that are morally grounded and promote environmental stewardship, consumer protection, human rights, and racial or gender diversity. SRI investors employ negative screening strategies and morality often trumps the bottom line.

As a blanket investment term, sustainability has become a catch-all for a company’s efforts to “do better” or “do good.” The sustainable investment approach is best defined by the three pillars of sustainability: economic growth, environmental protection, and social progress, also referred to as “people, planet, and profit.” In a nutshell, sustainable investing directs capital to companies fighting climate risk and environmental destruction, while promoting corporate responsibility.

In contrast, ESG integration focuses on three specific, foundational pillars that are crucial to both corporate management and investors. Environmental issues can include pollution, climate risk, exposure to extreme weather, carbon management, and the use of scarce resources. Social issues can include product safety, human rights, worker safety, customer data protection, and diversity and inclusion. Governance issues can include factors such as accounting standards compliance, succession planning, and anti-competitive behavior. ESG factors can be applied to all industries and promote sounder investments through ethical business practices and improved risk mitigation.

While SRI, sustainable investing, and ESG investing each offer a way to incorporate sustainable practices into corporate decision-making and investment strategy, ESG investing is proving to be the most effective method. Because ESG investing considers the key aspects of an organization’s environmental, social, and governance risks and opportunities, investors can enhance traditional measurements of company operations that have a material impact on its performance.

Myth #11. ESG investing is only applied to equity funds.

Reality: ESG strategies are available across asset classes.

Other asset classes are increasingly incorporating ESG analysis into the investment process. PSCG found that more than half of global ESG assets were in publicly listed equities, as of 2018—though fixed-income assets represented more than a third of these assets. Alternative assets, including real estate, private equity, venture capital, and hedge funds, among others, represent more than 10% of ESG-related managed assets.

According to the PRI, the percentage of ESG-related equity investments remained unchanged from 2017 to 2018, while fixed-income and alternative assets showed significant growth over this period. This higher growth rate indicates that these other asset classes are likely to continue increasing their share of assets invested in an ESG-related fashion. Additionally, according to Morningstar, of the 598 sustainable funds available as of December 2022, 418 were equity funds, 129 were fixed-income funds, and 49 were allocation funds. Investors have the most choices in U.S. equity with 193 funds. Another 153 funds were either world-stock or international-equity funds. Overall, investors can find sustainable funds in 69 categories. Fixed-income funds commanded the majority of 2022’s sustainable fund flows. Flows into sustainable bond funds surged to three fourths of overall flows, up from 16% in 2021. Although down from their record $11.1 billion acquisition in 2021, these funds’ net annual $2.4 billion intake set them apart from conventional peers in 2022. While fixed-income assets managed following ESG guidelines still lag their equity counterparts due to the lack of data and standardization, the recent increase in fixed-income ESG funds suggests this area has room to grow.

Myth #12. Investors must sacrifice financial portfolio performance with ESG and Impact Investments.

Reality: You do not necessarily sacrifice performance with ESG and Impact Investments, in fact, incorporating ESG factors into your investments can help boost financial performance.

Many have the misconception that investing in ESG funds or aligning their values with their investments will end up sacrificing financial performance in return for increasing their social return. However, this is shown to be inaccurate. Some studies suggest that companies with robust ESG practices displayed higher profitability, lower cost of capital, lower volatility, and stronger operational performance. In fact, of the 20 equity indexes in Morningstar’s Global Sustainability Index Family, 16 have outperformed their non-ESG equivalent since inception.

Skeptics cite higher costs, poor financial performance and implementation as concerns surrounding ESG investing. However, we believe these claims are unsupported by the performance data of these funds.

What next? Now that the main myths about ESG have been debunked, and your skepticism is eliminated,      PSCG can help your organization jumpstart your sustainability journey and create an ESG Plan for you. Feel free to contact us and schedule one a free 30-minute consultation with one of our ESG professionals.