Although ESG investing has been around a long time, these days the subject seems to be everywhere. Investment trends come and investment trends go, of course, but ESG and the broader topic of sustainability are not going away any time soon. Rather, what’s happening is a fundamental shift; ESG is in the midst of a transition from the periphery to the mainstream.

Let’s look at why this is. 

1. Growing understanding and recognition of the financial implications of sustainability considerations. This is the biggest one. It turns out that there are an awful lot of things that are not included in traditional financial accounting that are nonetheless relevant to investors. For example, the SASB Materiality Map takes an industry-by-industry approach to identifying sustainability issues that are likely to materially affect the financial condition or operating performance of companies. These include things like: data security, which is identified as likely to be material for e-commerce and for some parts of the health care sector; ecological impacts, likely to be material for the extractives and minerals processing sector and the forestry industry; employee health and safety for the engineering, construction and mining industries; and so on. For every industry, multiple issues are identified as material. 

These considerations come into play not only as potential risk factors, but also as return drivers. The global transition to lower-carbon energy sources, for example, is a threat to some business models and an opportunity for others, and will produce winners as well as losers. 

Increasingly, then, ESG analysis is no longer a bolt-on to true investment, it is at the heart of it.

2. Greater public awareness and concern, especially regarding climate and environmental threats. For more than a decade, Pew Research have been polling Americans on their views, and the proportion saying that protecting the environment should be a top priority for the President and Congress has risen steadily throughout that time, from 41% to 64%. Globally, the numbers are even higher.

3. Changing expectations of corporations, both externally and internally. I highlighted in a recent post the tension between the view that the social responsibility of business is to increase its profits, no more and no less, and the counterview that a business is inextricable from the community of which it is part, and that it cannot shirk responsibility for its impacts. Corporations and the CEOs that lead them are today more than ever expected to play a broader societal role.

4. Regulation reflects an evolving view of the role of investors, stewardship and fiduciary duty. That same post addresses this topic and the 730 hard and soft-law policy revisions around the world in the past twenty years that encourage a long-term investment view. The US Department of Labor’s antipathy to the growth of ESG is very much the outlier in the global context. 

5. Development of sustainability reporting standards and improved data availability. One of the challenges faced by investors is the sparsity of meaningful data; even the data that is available can be difficult to interpret and is frequently not comparable across companies. While the lack of standards can represent an opportunity to add value for investors willing to do the hard work, it makes integration of ESG into mainstream processes more difficult. Several initiatives are working to address this issue, and data availability is likewise improving. There’s a long way to go, but progress is real.

6. Supporting ecosystem of analytical tools. As more and better data is becoming available, more tools are also being developed for analyzing that data. This is both a symptom and a driver of the sector’s maturing. 

So, having grown steadily over the past twenty years, the momentum behind ESG had by the start of 2020 become a tidal wave as each of these six factors fed off of and strengthened the others. But our discussion does not, of course, end there; this has been a remarkable year.

7. COVID-19. If anyone needed an illustration of how the investment world is just one part of a bigger whole, and how the line between what is a financial factor and what is non-financial gets erased in a crisis, this is it. COVID-19 adds a new dimension to ESG, reshaping perceptions of where the main risks and return opportunities lie.  

8. 2020 also saw a wave of civil unrest arising from the death of George Floyd at the hands of a Minneapolis police officer, focusing attention on the persistence of racial injustice within the US and beyond. There has been a steadily growing appreciation among the investment community of the importance of diversity (in many forms), both as a driver of better results and a desirable end in its own right. This year’s events give added weight to that discussion. 

So that’s six, or rather seven, I mean eight factors driving the momentum behind the growth of ESG. 

With so much force behind the change, things are moving quickly. As investment organizations consider how to respond, they need to look not only at where things are now, but at where they are going. Indeed, what is sometimes thought of as the future of investing is, in many regards, already here.