Stockholm (NordSIP) – Over the last week, a discussion has been raging over the nature of ESG investments. Following the publication of a research piece by Vincent Deluard, director of Global Macro Strategy at INTL FCStone, several articles have questioned whether ESG ETFs’ performance is achieved at the detriment of labour, thus skipping the “S” in ESG.
What’s the Kurfuffle About?
Following an original discussion in John Authers’ Bloomberg newsletter, the debate gained momentum after an article by the FT Alphaville’s blog publicised Deluard’s research piece claiming that ESG ETFs overwhelmingly invest in companies that have fewer employees than the average Russell 3000 (see image below). Following these two initial discussions of the article, the last week saw the research make its way to discussions on ETF Stream and Responsible Investor.
The thesis of the article is that the filters and exclusions that many of these funds apply in selecting companies lead to biases towards new tech and service companies, which, by their very nature require less labour.
Based on this insight, Deluard then concludes that ESG ETFs are bad for labour and as a result unavoidably detrimental to its social goals. “ESG’s bias against humans is probably unconscious, but it is a feature, rather than a bug. Companies with no employees do not have strikes or problems with their unions. There is no gender pay gap when production is completed by robots and algorithms. Biotech labs where a handful of PhDs strive to find the next blockbuster molecule have no carbon footprint. Financial networks which enjoy a natural monopoly in processing payments can have the luxury of ticking all the boxes of the corporate governance checklist.”
Some Challenges of ESG Investing
ESG investing is not perfect. It has been plagued with subjectivity, data problems and its fair share of fraudsters. These are legitimate concerns that the industry is continuously seeking to address.
The issue Deluard highlights is, if confirmed, relevant. However, it is not necessarily a blow to the merits of ESG investing. Increasing jobs is an important goal in the context of social investment in communities. We also know that if not appropriately managed, technological disruption can have long-lasting detrimental effects on local communities. The transition from a manufacturing to a services economy has devastated large swathes of the north of England and the American rust-belt and deprived them of jobs. However, few would argue that the world is worse off today than it was a century ago when manufacture an heavy industry were kings.
Deluard’s concern about exclusions and filters also highlights an important fact. Blindly applying filters – as many ESG ETFs do – is not necessarily the best way to drive change. The disengaged exclusion of companies and sectors can only motivate changes in their behaviour if it significantly impacts their cost of capital, which it is not always clear happens. If on the other hand, investors engage with their investments, set clear goals and monitor them, positive change is more likely to emerge as a result of that process.
However, there is a concern that Deluard’s piece takes his conclusions to an unwarranted extreme. By arguing that ESG investing rewards “winner-takes-all-capitalism, monopolistic concentration, and the disappearance of jobs for normal people” it opens the door for less thoughtful analysis to conclude that it is possible to do ESG investing without considering the social factor. Arguably, that’s tantamount to throwing out the baby with the bathwater.
Some Challenges to Deluard’s criticism of ESG Investing
At this stage, one of the main issues with Deluard’s short research note is that it is based on a small sample of 10 ESG ETFs. A larger sample should be at the core of any future discussion of the labour implications of ESG investing. However, it is possible to note some other concerns at this stage already.
For one, his argument is based on a relatively reductionist assumption. The point he makes is clearly valid and a fact social investors should bear in mind. However, his conclusion is based on the mistaken assumption that all social investing should exclusively focus on job creation. A range of other pertinent labour considerations fall within the remit of social investments, including health and safety norms, deaths, wage inequality, benefits, community engagement as well as the issue of minority representation across various levels of a company. Implicitly, Deluard is arguing that quantity matters more than quality.
The argument also reveals a degree of ignorance about the many forms social investments can take, including recent efforts to help finance the fight against the effects of COVID19 with Social Bonds.
It is also not clear what the “all” is that is “won” and who is doing the “taking”, when Deluard accuses ESG of rewarding winner-takes-all companies. If the discussion is about inequality between investors, management and employees, clearly social considerations about income inequality, benefits and health and safety should allow investors to monitor companies’ behaviour and engage with laggards. If the issue is market share and abuse of a monopolistic position, then the problem seems to be covered by the controversies filter applied by many of these ETFs. It is worth noting, for example, that Facebook’s privacy scandals and Volkswagen emissions fraud have led to their exclusion from the S&P 500 ESG and the Dow Jones Sustainability indices, respectively.
Arguing as Deluard does that “only angels and robots never sin” and that “ESG investors unwillingly pave the way for a perfect world which has no place for humans” based on his insights seems a bit of a stretch.
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