Sustainable Finance

You’ve probably heard the term ESG before and might be concerned about how much about it is true and what is just pure greenwashing. Whether or not you are familiar with ESG at all, this Blog aims to provide a comprehensive overview of what sustainable finance is and whether or not it actually makes a difference for the people and the planet.  

The origins of sustainable finance

Back in the 15^th century, the first banks in Italy were heavily influenced by religion and morals. But during the industrial revolution, 3 centuries later, banks started to have a more international scope and to pursue profit.

Multinational banks experimented a period of growth until people realized they had been supporting environmental destruction. As a result, in the 1980s, banks were forced to do environmental risk screening by the EU, leading to sustainable finance. (Sitherasenan, 2020)

Nowadays, ESG, a level of sustainable finance, has gone mainstream. The concept was developed early this century by the United Nations. Their goal was to protect investments from financial risks coming from climate change, human rights, work disputes or poor corporate governance. Since 2019, there has been a fivefold growth of ESG internet searches and over 90% of S&P 500 companies now publish ESG reports. When looking into investments, inflows in sustainable finance funds rose from $5B in 2018 to nearly $70B in 2021. (McKinsey, 2022)

What does ESG mean?

There are different levels of sustainable finance, ESG being one of them. ESG stands for Environmental, Social and Governance, meaning people and planet are put at the forefront and taken more into consideration when making investment decisions.

According to the European commission, environmental considerations include preservation of biodiversity, pollution prevention and circular economy as well as climate change mitigation and adaptation. Social considerations refer to diversity, equity and inclusion , labor relations, investment in human capital and communities and human rights. Governance ranges from management structures, employee relations and executive remuneration.

Concerns about ESG

This looks good on paper, but a study by Influence Map shows 71% of the funds studied failed a test to determine whether they were aligned with the Paris Agreement global targets. Additionally, many claim (rightfully so) that the principles around which ESG indexes are based on need to be better thought through. As for now, the principles are the following:

• Exclusionary: decision to exclude controversial themes from your portfolio, such as weapons.
• Single theme: focus on a topic such as empowering women in the industry or renewable energy. Tech companies are normally strong from an environmental standpoint but do not necessarily comply with the social or governance standards.
• Best in Class: being better than the rest of your competitors – this does not necessarily mean that you comply with the necessary standards, it just means you are better than the rest.

Not only are que foundations questionable, but there have also been asks about the quality and the standardization of ESG rankings. Rankings are the services which examine companies and provide numerical ratings for their sustainability performance. There are various ESG rating systems set up by different rating agencies, such as MSCI or RobecoSAM. (Bloomberg, 2021)

Start Impact investing

It is important to bear in mind that ESG consists in using data to identify risks that might negatively impact investment performance. There are practices under the sustainable finance umbrella, such as impact investing, taking this one step further. Impact investing is made with the intention to generate positive measurable social and environmental impact alongside with a financial return instead of merely focusing on mitigating risks coming from environmental, social or governance practices. (Harvard, 2021)

My take on this

Given the controversy about the integrity of ESG investments together with the lack of a framework and standardized rating mechanisms, it is hard to claim ESG contributes to a better world. I still think though, it is a big step towards the right direction. We should see the surge of ESG as an opportunity and demand more integrity, transparency, regulation and standardization to ensure these investments are in fact sustainable. (Forbes, 2022) (MSCI, 2022)

But, when choosing between mitigating investment risks by taking environmental, social and governance practices into consideration (ESG) or generating actual positive and measurable environmental and social impact (impact investing), I choose the latter.

About my work

I’m the co-founder of Climatize, a mobile app that enables people to start impact investing from as little as $5 in profitable climate projects that support underrepresented communities. We screen projects to ensure their technical and economic viability while actively seeking projects with high social impact in LMI (low-to-moderate income) and BIPOC (black, indigenous and people of color) communities.

We are changing the climate narrative from all about sacrifice to an opportunity, enabling people to make a difference while making money at the same time. If you are curious about our app and would like to start investing today in a better tomorrow, I encourage you to check out the app. Please reach out to me if you want to learn more or have any questions!

An article by Alba Forns, YGC 2022.