I have written a lot of words criticizing ESG investing, now a flip flop?! Of course not. To the extent ESG brings attention to important issues, GREAT! How a company treats the environment, society, and how the corporation is governed are all very important and all play a role in how the company will perform. It is how ESG is defined, how the analysis is completed and then how ESG is used for marketing rather than for improving finance, those are the problems.
ESG may prove worthy of respect as information becomes ever more available. People are able to learn more about risky corporate behaviour than in the past. No company that allows tailing dams to rupture, that abuse employees or local residents, is a good investment. Of course, if information is misunderstood or misrepresented, the opposite becomes true.
For ESG to make a positive impact the focus needs to begin with integrity and science and not get caught up in trends and politics, nor be motivated by marketing goals. I am not confident that will happen. I have more faith in the influence of consumers, good regulation, media attention, fundamental investment research all combined, in spite of the MANY flaws each of these influencers have. Other cases where we have relied on experts to protect us, did not end well. A case in point is the 2007 – 2008 U.S. mortgage market collapse which spawned the Great Recession. A summary below of the role credit rating agencies, namely: Standard & Poor’s, Moody’s and Fitch Group had in causing that hardship, is taken from Wikipedia:
The Financial Crisis Inquiry Commission (FCIC)3 set up by the US Congress and President to investigate the causes of the crisis, and publisher of the Financial Crisis Inquiry Report (FCIR), concluded that the “failures” of the Big Three rating agencies were “essential cogs in the wheel of financial destruction” and “key enablers of the financial meltdown”.4 It went on to say: The mortgage-related securities at the heart of the crisis could not have been marketed and sold without their seal of approval. Investors relied on them, often blindly. In some cases, they were obligated to use them, or regulatory capital standards were hinged on them. This crisis could not have happened without the rating agencies.
Their ratings helped the market soar and their downgrades through 2007 and 2008 wreaked havoc across markets and firms.6
Think of the credit rating agencies as the ESG of credit risk. This should serve as a recent and powerful example of the danger of relying on elite, establishment guidance on issues of risk and proper conduct.
Will the ESG rating agencies do a better job of informing us than the credit rating agencies? Why would we think they will?
If you find it hard to believe all these respectable, successful ESG investment firms are leading you astray, let us bring in the egg heads for confirmation. Ira Yeung, assistant professor of accounting at the University of British Columbia’s Saunder School of Business has co-authored research that shows investors are drawn to corporate social responsibility but only for a short while and then the positive effect wears off. Further, his research shows, the positive impact occurs when society is paying more attention to these issues, such as now, he says. As with all things investing, past performance is not an effective predictor of future performance (my reminder). Additional work by French researchers found that when stocks were added to the Dow Jones Sustainability Index they did experience a price pop, within a decade the markets no longer cared.5
But again, actually caring about important issues is not bad. Maybe, again, the consumer is ultimately a more powerful change agent. One of the world’s smartest consumer products company must believe so. Unilever which owns brands: Dove, Axe, Vaseline, Popsicle, Ben & Jerry’s and dozens more, claim to be focused on measures which shrink the environmental impact of their products. By shrinking the packaging content of some products8, they have reduced Unilever’s costs while adding a positive feature to their product. In turn, it is possible their revenue, profitability and share price should increase. I can buy into that. This is an example of transparent and logical change the consumer and investor can see. We won’t need Dr. ESG to provide the assessment for us.
That has to be enough said about ESG, by me at least. It is easy to be against things, that is not the point. The real point is, the world is a tough place. As much as we live in luxury compared with most humans in all of history, behind the scenes the fight for survival continues. When the antelope outruns the lion, he lives another day; when the lion outruns the antelope, she feeds her cubs and they live another day. That is the world we invest in. The second the market believed Apple had the smart phone technology of tomorrow, BlackBerry shares began their fall. The market didn’t care about shareholder losses or job losses, the world moved on. It is that same market you are investing in. The highest ESG rating in the world won’t help if the market decides the star ETF of 2020 is suddenly the BlackBerry of 2011 or is the slow antelope of the day, share prices / ETF prices collapse fast when the market sours on expected future profitability. Similarly, no one cares about your money as much as you do so take care of you, when you invest. That gives you the ability to do good things with your profits. Just like the Greedy Farmer, only if you harvest a crop, can you plant the seeds that create next year’s green shoots.
The fine print. I chose a “fine” font for the following paragraphs since this is the “fine” print. I want my fine print to be as legible as any content on the website. Investing is about paying more attention to the fine print than the headlines. Further, fine print is written because it matters, shouldn’t you be able to see it?
Above, where I write, “our farm’s carbon footprint has shrunk to less than 50% of what it was when I was a kid”, that conservative calculation comes from my own first-hand knowledge. I know very well that our production has more than doubled, per unit area. The exact amount of the reduction of fuel burned per square mile, I do not know as accurately, I just know it is significantly less. Tillage, working the land, cultivation, whatever term you use for cutting through the soil to create a seed bed or to cut off a weed root, requires a lot of power. Power requires fuel combustion. Changing to a process of seeding directly into the undisturbed land instead of cutting through the land multiple times, has minimized the fuel burn dramatically. So, add that to other minimum tillage procedures, I feel quite confident of reduced fuel burn. Add that savings to improved efficiencies from equipment modernization. These carbon savings will be offset by some increase in the use of fertilizer.
As with all claims I make in my content, I will continue to do my homework and review new information. Further, I will continue to scrutinize the references I have quoted. I want to do my best to understand and present factually accurate information. Most important, I want the best information I can find to make investment decisions. Any researched and well considered feedback is welcome.
Speaking of research, I know it is easy to cherry-pick data. There are opposing theories with every debate, it is easy to find one that fits a pre-established position. I try my best to avoid this pitfall. Skilled presenters and writers can make false information as convincing as true information. Some of the best presenters are more apt to be fibbers or “snake oil” salesmen, after all, their product is their presentation. It takes a lot of work and a healthy dose of skepticism to sort the wheat from the chaff. The world is a complicated place, we only know what we know until we know better!
3 the ten-member commission appointed by the United States government with the goal of investigating the causes of the financial crisis of 2007–2010
4 FINANCIAL CRISIS INQUIRY COMMISSION Final Report-Conclusions-January 2011
5 Report on Business, October 2019 edition, The Globe and Mail
6Report on Business, October 2019 edition, The Globe and Mail
7 Greedy Farmer Investing, as published right here and now, 06 November 2019