By Christopher Knapp, Robertson Stephens, and William Page, Essex Investment Management
September 16, 2021 – If there’s one thing the recent boardroom showdown over Exxon Mobil Corp’s stance on renewable energy has demonstrated to the world, it’s that environmental, social and corporate governance (ESG) investing is no longer child’s play.
In that clash, BlackRock and Vanguard, major Exxon shareholders, effectively partnered with upstart hedge fund Engine No. 1 to install energy-transition focused directors on the board of the oil giant.
But while the feat was remarkable for its show of proxy power, it threatens to obscure the true fighting potential of ESG investing, a movement that has been propelled by a range of stakeholders, employing a slate of diverse tactics over many years.
The movement seemingly achieved breakthrough status with a remarkable boardroom triumph with Exxon, along with a simultaneous court ruling in the Netherlands against Royal Dutch Shell plc. Its continued success, however, more likely hinges on embracing good corporate behavior rather than scorning the bad.
A historic ESG day from a historic ESG movement
It’s true these dual May 26 events represent a tipping point for sustainable investing. Engine No. 1, a $250 million hedge fund, in a stunning coup, secured seats on Exxon’s Board of Directors to push the company toward decarbonization. Also that day, the District Court in The Hague ruled in favor of an environmental group, ordering Shell to accelerate the reduction of its carbon emissions by 45%. Shell said it plans to appeal the ruling.
Exxon’s energy transition strategy, along with its weak performance, exposed the deep vulnerabilities of out-of-sync corporate leadership—and revealed untapped investor power. May 26 tells us we now have a more powerful voice for shareholder votes and court proceedings, at least in the more regulatory-driven Europe.
But what’s not so clear from those victories is that ESG investing has evolved with a patchwork of advocacy approaches, from proxy voting to engagement to divestiture. The ESG community has long held a spotlight on the industry—with many unsuccessful shareholder resolutions paving the way for Engine No. 1’s recent revolt.
Environmentalists have for years shamed the fossil fuel industry, while shareholder activists have engaged with major oil companies—first to get them to acknowledge climate change, then to decarbonize. We are benefiting from ESG research that uncovered the massive carbon emissions stemming from fossil fuels as well as the fossil fuel divestment movement, led by environmentalists calling for the sales of all fossil-fuel related holdings.
Global commitments to net zero carbon goals have become commonplace. Students are taking more classes on sustainability. These catalysts are in addition to recent dramatic weather events amounting to growing evidence of accelerated climate change.
ESG opportunities based on returns, not politics
ESG investing has hit a new milestone with remarkable confluence of events, altering the trajectory of the movement. Ultimately, it is an opportunity based on returns, not political beliefs. We have bridged the perceived gap between purpose and profit.
We’ve seen assets under management using ESG strategies soar in recent years, increasing by 42%, from $12.0 trillion in 2018 to $17.1 trillion in 2020, according to US SIF: The Forum for Sustainable and Responsible Investment.
And, according to the Morgan Stanley Institute for Sustainable Investing, sustainable funds not only reduced investment risk, but outperformed traditional peer funds in 2020—equity funds by 4.3 percent and bond funds by 0.9 percent—despite the pandemic-induced recession.
For fossil fuel infrastructures, there are signs that converting to new energy has become the more lucrative path as clean technology has continually taken share from legacy enterprise organizations. Momentum is building with electric vehicles, which are stealing market share from internal combustion engines. Hydrogen is enabling electrification of heavy industry.
Market makers see how natural gas and renewable energy has eaten into the coal industry over the last 10 years. They simply see better return potential with faster-growing clean technologies than they do with fossil fuels.
Shifting gears, from reactive to proactive
With this confluence, the mechanics of the market take over, as the scales tip in favor of companies working toward a greener future. Battles targetting bad actors, however, are consuming.
We have been intensely focused on engaging legacy enterprise organizations, but it’s time to shift our focus to the clean technology companies—and off ESG screens. There is much more to ESG investing than engagement, proxy votes and polarizing conflicts.
ESG strategies, hatched with clever marketing packages, began their ascent into mainstream consciousness dependent on a burgeoning industry of data and ratings. But ESG screens, often lacking uniform standards, can be disorienting and ultimately a disservice to investors, particularly when time-consuming data analysis impedes growth.
There is no one screen or dataset that will conclusively identify a good or bad actor. Investors fixated on ESG screens over the last decade, however, have turned into what amounts to a circular firing squad as they hunted for the perfect vetting techniques.
Rather than focus on screens, we should view the progress of these companies in the context of global secular trends, asking: What are they doing to transition to a net zero carbon economy? We can also determine how they are deploying capital, whether they are solutions oriented, and whether their clean technology enhances economic activity with fewer inputs.
The recent vote has taught us that we have underestimated the ability of shareholders to influence the course of action on climate change. We have also learned that companies that fail to keep pace with investor sentiment are more exposed than they think—and that they are missing an opportunity to use their cumulative knowledge to adapt to climate change. Ultimately, performance numbers show their acquiescence is more impactful and profitable than their resistance.
Chris Knapp is Managing Director, Principal at Robertson Stephens, a wealth management firm striving to provide comprehensive and innovative investment solutions and wealth strategies through an intelligent digital platform. William Page is Senior Vice President & Senior Portfolio Manager for Essex Investment Management, an independent, employee-owned institutional investment firm, co-managing the Essex Global Environmental Opportunities Strategy (GEOS) and the Pear Tree Essex Environmental Opportunities Fund.
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