🌱 ESG Investing
Definition: ESG (Environmental, Social, and Governance) investing integrates non-financial factors into investment decision-making to better assess long-term risks and opportunities — alongside traditional financial analysis.
Key frameworks: SASB, GRI, TCFD, ISSB (IFRS S1/S2) AUM in ESG funds: ~$30 trillion globally (2023)
🔑 The Three Pillars
🌍 Environmental (E)
How does the company interact with the natural environment?
| Factor | Measures |
|---|---|
| Climate change | GHG emissions (Scope 1, 2, 3), carbon intensity, net-zero commitments |
| Resource use | Water consumption, energy efficiency, waste generation |
| Biodiversity | Land use, deforestation practices |
| Clean technology | Renewable energy % of mix |
Scope 1/2/3 Emissions:
- Scope 1: Direct emissions (company’s own operations)
- Scope 2: Indirect from purchased electricity/heat
- Scope 3: Value chain emissions (suppliers + customers) — usually 70–90% of total
👥 Social (S)
How does the company manage relationships with stakeholders?
| Factor | Measures |
|---|---|
| Labor practices | Pay equity, safety record, unionization, benefits |
| Human capital | Training investment, turnover rate, employee satisfaction |
| Supply chain | Supplier labor standards, conflict minerals |
| Community | Local economic impact, philanthropy |
| Product safety | Recalls, customer complaints, data privacy |
| DEI | Board diversity, gender/racial pay gap, inclusion metrics |
🏛️ Governance (G)
How is the company directed and controlled?
| Factor | Measures |
|---|---|
| Board independence | % independent directors, separation of Chair/CEO |
| Executive pay | CEO pay ratio, pay-for-performance alignment |
| Shareholder rights | One share/one vote, anti-takeover mechanisms |
| Transparency | Quality of disclosure, audit quality |
| Anti-corruption | Code of conduct, whistleblower protection |
| Tax strategy | Effective tax rate, tax haven use |
📊 ESG Rating Agencies
Multiple competing rating systems — they often disagree significantly:
| Agency | Approach | Coverage |
|---|---|---|
| MSCI ESG Ratings | AAA to CCC; risk-focused | 8,500+ companies |
| Sustainalytics | Unmanaged risk score (0–100) | 10,000+ companies |
| S&P Global ESG | Score (0–100) | 7,000+ |
| ISS ESG | Prime/not prime; governance focus | 6,000+ |
| CDP | Climate disclosure grades (A–F) | 18,000+ companies |
Problem: Correlation between major raters is only ~0.6 — similar companies get wildly different scores.
Why? Different weighting, scope, data sources, and value judgments about what “ESG” means.
💰 The ESG-Returns Debate
Evidence ESG Helps Returns:
- MSCI (2019): High ESG companies had lower cost of capital + lower tail risk
- Harvard (2012): “High sustainability” companies outperformed over 18 years
- Meta-analysis (NYU Stern 2015): 63% of studies show positive ESG-financial relationship
Evidence of Skepticism:
- Alex Edmans (LBS): Many correlations are reverse causality (profitable firms invest in ESG)
- “Greenwashing”: Companies claim ESG credentials without genuine change
- Aswath Damodaran: ESG is a marketing label, not alpha source
- Tariq Fancy (ex-BlackRock): Sustainable finance is a “dangerous placebo”
Current consensus: ESG risk management has clear value; alpha generation from ESG is unclear.
📋 Key Reporting Frameworks
| Framework | Focus | Who Uses It |
|---|---|---|
| GRI (Global Reporting Initiative) | Broad stakeholder impact | Most common globally |
| SASB (now ISSB) | Industry-specific, investor-focused | US companies |
| TCFD | Climate financial risk | Banks, investors |
| ISSB S1/S2 | Unified global standard (2023+) | New global baseline |
| EU CSRD | European mandatory disclosure | EU companies |
🔗 Connected Concepts
- Stakeholder Theory — ESG operationalizes stakeholder capitalism
- Corporate Governance — The “G” in detail
- Behavioral Economics Overview — ESG preferences partly behavioral
- Capital Structure — Green bonds, sustainability-linked loans
- Porter’s Five Forces — Climate regulation changes industry dynamics
← ⚖️ Ethics & ESG MOC | Related: Stakeholder Theory · Corporate Governance · Capital Structure