The deep dive: ESG in financial services

By Gaia Lamperti

‘The deep dive’ is our bi-weekly exploration of a relevant topic, hot trend or new product. For Prime subscribers only. 

What is ESG and why is everyone talking about it? Over the years, investment criteria have changed a lot and, while a company’s profit margins and market share still weigh on investors’ decisions, these days companies also have to prove their commitment to producing a positive societal and environmental impact.

Setting Environmental, Social and Governance (ESG) goals and implementing a business strategy that takes them into account, implies a shift in the company’s decision making which considers how its operations affect customers, communities, suppliers, employees, and the environment.

How does it work?

Let’s breakdown what ESG stands for:

• “E” is concerned with how a company utilises natural resources and its effects on the overall environment. Basically, this area focuses on everything ranging from climate change to green tech, to carbon footprint.
• “S” considers a company’s approach to its customers and employees’ needs. This is an ever-changing aspect and more difficult to track compared to a company environmental impact but it involves all its efforts towards more ethical and fair practices. It can come under different forms, among which an equal and diverse representation across the board, engaging in charitable initiatives, ensuring fair labour practices, and supporting relevant social causes.
• “G” refers to an organisation’s governance criteria. Good governance means that the company runs smoothly and efficiently thanks to the implementation of all the necessary checks and policies. This aspect reflects the company’s ability to meet all the principles, defining rights, responsibilities, and expectations of different stakeholders in the governance of corporations.

Who is under the radar?

Financial services learned the lesson pretty quickly and now the industry, from emerging FinTech start-ups all the way to the world’s biggest banks, is set for greater adoption of ESG strategies – not least because they also feel the pressure of investors, regulators, policymakers and the wider public.

Banks, insurers, asset managers are increasingly looking at “greening” their operations and transforming their business models in favour of more coherent ESG strategies. Regulators are also powering the shift towards purpose-driven approaches. The US Securities and Exchange Commission (SEC) has made clear that ESG is its top priority in the rulemaking agenda last June, while other regulatory bodies such as the Office of the Comptroller of the Currency and the Federal Reserve have also emphasised various aspects of ESG like climate risk.

Why does it matter now?

There are now hundreds of ESG indices globally, assessing companies’ risks against ESG practices and helping investors use their capital for socially responsible and sustainable activities. A robust and well implement ESG agenda will not only result in a better public face for the company but also in improved performance as, especially in light of the Covid-19 pandemic, it has become clear that the environment and social issues have a deep and direct influence on economic stability.

In 2020, ESG funds captured $51.1 billion of net new money from investors, a record and more than double the prior year, while in the first quarter of 2021 alone, sustainability-focused funds attracted nearly $2 trillion.