Is There an ESG Bubble?

    ESG assets might have grown anywhere between US$2 trillion and US$35 trillion between 2016 and 2020

    Stockholm (NordSIP) – According to the latest Quarterly Review by the Bank for International Settlements, a global institution that oversees and coordinates national central bank efforts, “there are questions about the possibility that a bubble might develop unless market transparency can be ensured”.

    To address these concerns, a report, written by Senior Economist Sirio Aramonte and Economist Anna Zabai, reviews the growth of ESG assets, their  valuations, investors’ exposures, and discusses policy considerations relevant for the nascent regulatory framework

    The authors argue that the lack of standardisation and related classification issues make it difficult to provide a precise estimate of the growth of ESG assets. They note that estimates vary from US$2 trillion to US$35 trillion market growth between 2016 and 2020.

    According to the study, green bond holdings represent only approximately 1% of total bond portfolios for both US insurance companies and European banks, although the figure increases to about 4% of their current corporate credit exposure for US pension funds.

    Worrying about the rapid rise in ESG investments and citing the example of Railroad stocks in the mid-1800s, internet stocks during the dotcom bubble and mortgage-backed securities (MBS) in the Great Financial Crisis, the authors warn against the risk of large price corrections after an initial investment boom. That being said, the analysis points out that “even after a decline from their peak in January 2021, price-to-earnings ratios for clean energy companies are still well above those of already richly valued growth stocks.”

    However, the report warns that as more elaborate instruments, such as structured products, start taking over the market “it will be important not only to assess the benefits of financing the transition to a low-carbon world, but also to identify and manage the financial risks that might arise from a shift in investors’ portfolios.” To be able to conduct this oversight, the authors conclude with a call for increased disclosures to increase data availability to increase transparency in the market.

    Image by Sally Wynn from Pixabay

    Filipe Albuquerque
    Filipe Albuquerque
    Filipe is an economist with 8 years of experience in macroeconomic and financial analysis for the Economist Intelligence Unit, the UN World Institute for Development Economic Research, the Stockholm School of Economics and the School of Oriental and African Studies. Filipe holds a MSc in European Political Economy from the LSE and a MSc in Economics from the University of London, where he currently is a PhD candidate.

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