Does sustainable investing have a future in the U.S. market? Part 1 | Insights | Bloomberg Professional Services

This article was written by Chris Hackel, Head of Sustainable Indices at Bloomberg.

In this series, Bloomberg’s Sustainable Indices team takes account of current market sentiment and conditions surrounding sustainable and ESG investing in the U.S. market and explores opportunities for 2023. Catch up on Part 1 here.

Today, in the second part of this blog series, we take a closer look at strategies that use ESG, without using “ESG”.

Over the past year, ESG investing has been much maligned and misunderstood by politicians and the media. Anti-ESG rhetoric in the US has started to have a negative impact on public perception of the investment approach.

Adding to the muddle has been the historical use of “ESG” as a broad, umbrella term, covering not only ESG score integration and values-based investing, but also climate investing, impact investing, and the diverse variety of sustainable investment approaches. For Bloomberg Sustainable Indices, our use of “ESG” applies only to score integration and negative screening based on business involvement. Most commonly, these ESG scores are designed to capture environmental, social, and governance factors that are financially material to a company’s value. For example, as governments and regulators around the world implement policies and regulations aimed at reducing greenhouse gas emissions, companies that rely heavily on fossil fuels or have a high carbon footprint may face significant financial risks in the form of carbon taxes, emissions trading schemes, or other penalties. The long-term impact of this scrutiny is yet to be seen. But, as P.T. Barnum supposedly said, “there’s no such thing as bad publicity,” and that might turn out true for ESG.

.  A strong counter-narrative from the investment community (along with a more clear explanation of the purpose of ESG scores and their impact on fund performance and risk characteristics) could drive new interest, at least among a segment of investors. Should that time come for previously uninterested investors, Bloomberg has a comprehensive, cross-asset ESG-integrated index offering available.

In the meantime, some of our US clients are using approaches that still incorporate ESG considerations, but less explicitly

Best supporting actor

One of those approaches is using an ESG score as an additional consideration in a more targeted thematic or sustainable investment fund. For example, the Bloomberg BioEnergy ESG Index tracks the performance of companies expected to generate meaningful revenue from the production, storage, and distribution of ethanol, biodiesel, and renewable fuel. The index also ensures that at least 20% of securities are excluded based on ESG considerations.

With this index, investors gain exposure to companies that are expected to benefit from the energy transition, while avoiding those that face significant business risk from climate and other factors, as measured by an ESG score.

Sector profile of the Bloomberg BioEnergy ESG Index (as of 30 December 2022), which is constructed to track the performance of companies that are expected to generate a meaningful portion of revenue from the production, storage, and distribution of ethanol, biodiesel, and renewable fuel.

What matters most

Another approach investment managers might consider is “de-aggregating” ESG scores. Rather than assess companies using the large number of environmental, social, and governance factors in an aggregate ESG score, one could instead use a limited selection of underlying ESG factors/issues that are most relevant to a certain investor or index/fund objective. For example, the “Data Security & Customer Privacy” Issue score from the broader Bloomberg ESG Score could be used to assess companies in the technology sector in a more targeted and specific manner.

Such an approach, which can be incorporated into Bloomberg Indices, could introduce ESG risk factors in a way that may be more approachable to investors.

Regulation to the rescue?

Although the current climate is challenging for ESG funds, the transparency and clarity that is expected to come from various regulatory initiatives underway may reinvigorate US and global investor interest in the approach.

In the US, the Securities and Exchange Commission (SEC) has proposed new rules that would require fund managers to provide more detailed disclosures about their ESG investments, including the methodologies used to assess ESG factors and the potential risks and returns associated with these investments. Similarly, in Europe, the EU’s Sustainable Finance Disclosure Regulation (SFDR) requires fund managers to disclose how they integrate ESG factors into their investment processes, as well as the impact of these factors on investment returns.

These regulations may provide investors with greater transparency and confidence in ESG funds, leading to increased demand for these investments.

An opportunity mindset

 In the coming weeks, we’ll continue in this series to explore other trends and potential opportunities in sustainability investment in the U.S. market, including:

• Opportunity in the low-carbon transition

Bloomberg has launched various broad and thematic indices that include markets or companies most benefitting from the global shift to a low-carbon economy.

As more countries, including the U.S., introduce related regulations, opportunities are being created for funds and investment vehicles to align with these initiatives and effectively be “long regulation”.

• Investing as usual, but with an impact

Finally, indices that achieve specific, targeted sustainable impact but provide an alternative to ESG score integration, where impact can be less clear or recognized.

Visit I<GO> on the Terminal or browse our website to find out more about Bloomberg’s Sustainable Indices and request a consultation with an index specialist.