Recently, Missouri withdrew $500 million in state pension funds from the largest asset management company in the world, BlackRock.
Missouri is not the only conservative state to pull funds from asset management companies. It seems that there is an emerging anti-ESG campaign in many red states.
Before, asset management solely looked at financial returns. However, in some republicans’ eyes, asset management changed. They have preferences now. The conflict arises when what BlackRock considers “good” no longer aligns with what Missouri, its client, considers “good”.
Anti-ESG republicans like Scott Fitzpatrick, Missouri State treasurer, believe asset managers are using clients’ money to invest in what they believe to be “good”. They argue that America was founded to prevent a consolidation of power. And the market should be the same. There shouldn’t be intentional exclusion of certain industries when it comes to investing. This invades the basis of America’s freedom.
Amid the overheated debate, the details of what ESG is and what it means for your 401K becomes confusing. This FAQ explains what ESG is and its implications for investors.
What is ESG?
In general, organizations go to investors for loans when they need money. Investors then consider the financial risks and decide whether to invest. ESG goes beyond normal risk considerations. It evaluates the non-financial opportunities and risks inherent to a company for investing.
ESG is broadly divided into three areas: environment, social, and corporate governance. E in ESG tackles the question: is a company prepared for the climate transition that’s coming? S tackles the question: how well does a company treat its workers? G tackles the question: how ethical is the company?
Answers to these questions largely vary from company to company, and this will influence investment decisions.
So far, ESG investing has mainly focused on the E.
Climate change is one of the easiest ESG examples to understand. An ESG investor would consider how physical risks such as worsening drought could impact a company’s operations. For example, a clothing manufacturer company relies heavily on water to operate its factories. Would it need to move factories somewhere else if the drought worsens? Or would a company’s performance worsen if emissions reduction policies are enacted?
How has ESG evolved over the past few decades?
When ESG investing first started, the approach to investing was exclusionary. ESG funds traditionally avoided certain industries such as fossil fuel, tobacco, and weaponry.
With this exclusionary approach comes criticism from the right. Fitzpatrick criticized firms like BlackRock for boycotting the fossil fuel industry based on ESG criteria.
ESG investing never intends to punish certain industries. Big banks, including BlackRock, still provide hundreds of billions of dollars in financing the fossil fuel industry. BlackRock is still one of the top shareholders in many gas and oil companies.
Over the years, ESG investing also adopted an inclusionary approach. Investors invest in companies that do well in ESG areas such as water and waste management, good employee benefits, and risk management.
Why is ESG becoming a political fight now?
Climate considerations, and ESG more broadly, are ingrained deeply enough in corporate America that it is changing the way some industries operate. Hundreds of companies have announced plans to eliminate or offset greenhouse gas emissions in the near future. This progress is provoking debate.
Fitzpatrick grounds his anti-ESG argument in the E, more specifically, the fossil fuel industry. He argues financial firms like BlackRock should prioritize providing maximum returns, not forwarding liberal issues like social justice and climate change.
The timing of his argument should not be surprising. Oil, for this year alone, is one of the few sectors that had positive returns. However, Fitzpatrick’s argument weakens when viewed on a longer time scale since the fossil fuel industry has been on the decline.
The 2022 midterm election also drives controversy. Republicans are trying to score political points ahead of the election. This debate may seem like a new campaign, but can also be viewed as another battlefront of the climate debate. Climate policies have long been politicalized. Attacking one specific investing method is an extension of this debate.
It is saddening to see an issue getting politicalized and leading to binary thinking once again. “Every investor should adopt ESG” or “ESG is invading the basis of American freedom” are extreme viewpoints that would only further divide our country and not get us close to solutions.