Sustainable finance is full of greenwash. It’s time for more disclosure

INVESTORS ARE too familiar with Tesla’s rise to power. Shares of the electric vehicle maker are now worth nearly nine times what they were at the start of 2019. But that’s no exception. As political leaders around the world begin to send clearer signals of their willingness to tackle climate change, the private sector is also excited and a green boom is underway.

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More than 40 green companies have seen their stock prices triple since the start of 2019. Six have outperformed Tesla. Beneficiaries include all kinds of emission-efficient businesses, from solar panel companies to hydrogen cell manufacturers.

Meanwhile, many large companies from other industries have boasted of their green credentials. Renewable energy stocks have taken a hiatus in recent weeks, in part because investors worried about the prospect of rising interest rates, but other assets have taken off. In Europe, the price of carbon has reached an all-time high. The prices of metals, such as copper and lithium, which are used in electric cars, are also rising.

The boom reflects the growing demand from investors. Everyone from oil majors to day traders on WallStreetBets splurges on climate-friendly projects and stocks. Meanwhile, the asset management industry is commercializing an investment style that claims to take into account the environment, social and governance (ESG) factors. So far this year, entries in ESG funds accounted for about a quarter of the total, up from a tenth in 2018. On average, two new ESG funds are launched every day.

Unfortunately, the boom was accompanied by unbridled “greenwashing”. This week The Economist cross the numbers on the 20 largest in the world ESG funds. On average, each of them has investments in 17 fossil fuel producers. Six have invested in ExxonMobil, America’s largest oil company. Two own participations in Saudi Aramco, the world’s largest oil producer. One fund owns a Chinese coal mining company. ESG investment is not a champion of social virtue either. The funds we looked at invest in gambling, alcohol and tobacco.

Governments are starting to pay attention. Under Donald Trump, US regulators attempted to hinder ESG invest, which the White House saw as a left-wing conspiracy. On the other hand, the administration of President Joe Biden sees it as a potentially useful weapon in the fight against climate change. The Securities and Exchange Commission, the Wall Street regulator, fears that ESG funds mislead investors.

What should governments do? One possibility is to follow the European Union’s approach. Its latest Green Deal includes many new rules on sustainable finance. At their core, an elaborate state-run taxonomy covers some 70 different activities and aims to tell investors what is green and what is not. Inevitably, the effort ran into problems. Countries have lobbied fiercely on the European Commission to ensure that their preferred energy source is labeled as green. Poland and Romania, among others, want natural gas to be added to the green list, as they plan to use it to replace coal.

Rather than the EU playing god, investors can decide for themselves what is green. But they need a big improvement in business disclosure. The current system of largely voluntary notification is riddled with problems. Companies reveal lots of irrelevant puffs, while often failing to reveal the few things that matter. Ideally, an asset manager would be able to determine the carbon footprint of his portfolio and how it might change over time. But many companies do not rigorously disclose their emissions, and often the metrics reported by individual companies overlap, leading to double counting when you add them all up.

A better system would require companies to fully disclose their carbon footprint, including the emissions of the products they sell and the goods and services they buy. It would be helpful if the big polluters also revealed how they expect their ecological footprint to change and the amount of capital spending on low-carbon investments. This way, an investor could determine how much pollution their portfolio is responsible for today and what it might look like tomorrow.

The results of such a disclosure may be surprising. We estimate that listed companies that are not state-controlled account for only 14-32% of global emissions – so green investing can only be part of the answer. About 5% of these companies represent more than 80% of total emissions. They are mainly oil producers, utilities, cement companies and mining companies. Better disclosure would also show that only a small number of companies are investing heavily in renewables or advanced technologies.

The combined effect would be to expose as a hoax the idea that parts of the corporate world and the asset management industry are heroes saving the planet. And it would help investors invest their money in genuinely green businesses, ensuring a better allocation of capital and a faster energy transition.

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This article appeared in the Leaders section of the print edition under the title “Hot air”


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