The “Greening” of the Financial Sector
Analyzing Whether Financial Institutions Are Improving the Sustainability of Their Portfolios, or Just Using Green Marketing
Source: GFANZ Guidance on Use of Sectoral Pathways for Financial Institutions
Summary
In today’s post, we are going to be taking a critical look at the financial services sector and the ESG movement. For anyone who may not be familiar – financial institutions can be broken out into commercial banks (think Wells Fargo), investment banks (think Goldman Sachs), insurance companies (think State Farm), and investment companies (like hedge funds, private equity firms, fund managers, etc.). For the purpose of our discussion today, we are going to be focusing on investment companies (or asset managers). These asset managers invest not only on behalf of wealthy individuals but also for pensions, endowments, sovereign wealth funds, etc.
In order to adjust their strategies to changing consumer sentiment, asset managers have begun creating specific “ESG” investment strategies, which claim to invest only in companies with strong environmental, social, and governance characteristics. Hypothetically, these types of strategies should allow investors to invest in their values and mitigate risk. However, we are seeing that many of these so-called “ESG” or “Sustainable” strategies often spend more time and money on marketing than on actually reducing their environmental (or social) impact.
COP26 Pledges to Drive Change
For the past three decades, world leaders are brought together to an international summit hosted by the United Nations (UN) to discuss global climate change. COP, also known as the conference of parties, brings together almost every country in the world, with government representatives, negotiators, and businesses, to tackle the monumental task of climate change.
In the winter of 2021, the COP met for the 26th annual summit, calling the event COP26, in Glasgow. Over 120 world leaders, including President Biden, attended the 12 days long event to discuss the solution and a path forward. Over the course of the event, countless recognitions, agreements, and deals were made to essentially advance the commitments made from the Paris Agreement at COP21.[1]
A variety of deals and pacts were established at COP26 but some of the most notable ones included:
Glasgow Climate Pact: A global agreement with the goal to accelerate action on climate this decade, and finally complete the Paris Rulebook (governs how countries reduce and pledge emission reductions under the Paris Agreement)
Global Methane Pledge: Over 100 countries committed to a collective goal of reducing global methane emissions by at least 30 percent from 2020 levels by 2030
Deforestation Pledge: A pledge to halt and reverse deforestation by 2030
Coal Phase Out Commitments: 23 nations made new commitments to phase out coal power
Glasgow Financial Alliance for Net Zero (GFANZ) pledge: financial sector role in transitioning to Net Zero.
While each one of these pledges, if implemented correctly, will have a drastic impact on the economy, we want to focus on GFANZ specifically. GFANZ was established to unite the financial sectors, specifically, institutions with net-zero goals into one alliance. Any type of financial institution can join the pledge including asset owners, insurers, asset managers, banks, investment consultants, exchanges, rating agencies, and audit firms. The pledge recognizes that to meet climate-related goals, the financial sector, specifically private capital, is in a position to enable the transition to a lower-carbon economy. GFANZ members pledge to incorporate climate in their investment decisions and choices to put pressure on companies they invest in.
Over 450 firms across the globe have committed to the pledge which represents $130 trillion in assets under management. In North America, some of the biggest asset managers including the ones below have all joined the pledge.
Before becoming a GFANZ member, firms must abide by and align with the UN’s Race to Zero criteria, which is a sector-agnostic alliance to shift to a low carbon economy. The goal being this initiative will align its members with a broader universal initiative to help establish consistency among pacts. The UN’ Race to Zero has specific criteria that firms must be met committed to including: [2]
Use science-based guidelines to reach net-zero emissions by 2050
Set 2030 interim targets
Publish a Net Zero transition strategy
Commit to transparent reporting and accounting on progress toward goals
Adhere to the restrictions on the use of offsets
The Workstreams to Drive the Change
There are four main work streams the GFANZ program implements to drive change: Commitment, Engagement, Investment, and Alignment.
Commitment: This workstream is focused on expanding the number of firms that are aligned with the UN Race to Net Zero. Any type of financial firm including banks, insurers, or financial consultants can now join a standardized and credible alliance.
Engagement: The engagement workstream focuses on engaging with influential experts, governments, and NGOs to help drive change. One aspect of this workstream is working with private capital by increasing investments in emerging markets and developing countries. GFANZ is a strong advocate for deploying capital to these markets due to the potential to transition and the need for innovation in markets that are most vulnerable. This workstream also focuses on transitioning plans for the finance sector, defining best practices to do so, and hopes to align these best practices to a broader range of stakeholders.
Investment: This workstream supports the development of an implementation strategy for portfolio alignment and disclosure to the Paris Agreement. This group builds upon the recommendations already laid out by the TCFD framework and is currently working on a consulting task force for further portfolio alignment guidance.
Net Zero Alignment: The Net Zero Alignment workstream focuses on the public policy action plan needed to help transition the world to Net Zero. Policies included are the phaseout of fossil fuel subsidies, mandatory Net zero transition plans, and climate reporting for public and private enterprises.
Looming Credibility Gaps to Come?
While GFANZ has attracted vast amounts of capital and support, we also want to shed some light on the number of hurdles the coalition may have to overcome. One trend we have mentioned quite a few times throughout our posts is the concept of Greenwashing. The financial market has been inundated with claims of greenwashing and grey areas on what is deemed “sustainable”. Back in May, one of the members of GFANZ, DWS, was accused of greenwashing. Financial raids were conducted throughout the organization because DWS was said to be exaggerating investments that were “sustainable” or deemed “green”. We suspect more headlines like this one will continue to be on the rise. This could be due to the SEC ESG task force that was put together in the spring of last year to identify ESG related investment misconduct and misstatement. Overall, while firms may appear to be supportive of driving sustainability claims like this only set the financial sector back further.
The coalition also received harsh criticism for the allowance of fossil fuel investments. Members can continue to make investments in fossil fuels until 2023 and then plan to “phase out” investments with no mandate to end investments in these assets. In the small print, firms will be allowed to invest in new coal companies and continue for years to come. Beau O’Sullivan, a senior campaigner for Bank On Our Future, stated in a recent article published by the Guardian “The only real action we’ve seen from banks is to up their greenwashing budget. GFANZ has huge potential, but sadly it’s providing financial institutions with cover to continue, with a few exceptions, business as usual. They need to make a plan to get out of all fossil fuels, including oil and gas, and stop their funding of the [fossil fuel] sector’s growth right now.” [3]
Hot Tea
It’s not just financial companies making moves to integrate sustainable practices into their practices. Our hot tea highlights everyday stores that recently made a big change.
The Home Depot Expands Partnership with the Human Rights Campaign Foundation
PUMA Ranked Most Sustainable Brand on Business of Fashion Sustainability Index 2022
Sustainability Mover & Shakers
We have all heard of Carvana, CarGurus, and CarMax but how about Carla? [4] Unlike the other online car markets, Carla is an e-retailer for buying, leasing, and selling electric cars exclusively. Based in Sweden, this is one of the first electric online market places to buy electric cars and the company promises pickup and delivery of cars within 72 hours. Prior to buying the car, Carla takes care of inspections, repairs, and battery testing to make sure all cars on their platform are high quality, affordable, and purchasing is a simple process. The company most recently raised over $19 Million in investments and plans to use the investment for international expansion, product development, and to increase the capacity for delivery. [5]
[1] The Paris Agreement is a legally binding international treaty on climate change. It was adopted by 196 Parties at COP 21 in Paris, on 12 December 2015 and entered into force on 4 November 2016. Its goal is to limit global warming to well below 2, preferably to 1.5 degrees Celsius, compared to pre-industrial levels. https://unfccc.int/process-and-meetings/the-paris-agreement/the-paris-agreement