Questionable, politicized, “Through the Looking Glass” standards limit its use for investors. But it need not be so.
This is the second part of a three-part commentary on ESG investing. The first installment, “The United States should clarify the ‘E’ in ‘ESG’ and use carbon standards to our advantage,” was published on May 25.
After this statement in the illustration, Lewis Carroll wrote:
“The question is,” said Alice, “if you box make the words mean so many different things.
“The question is,” Humpty Dumpty said, “who should be the master – that’s all.”
As we explained in May, when we discussed the “E” or “environmental” aspect of ESG investing, “environmental, social and governance” investment standards are nebulous and allow for interpretation wide, even a sophism. As Humpty Dumpty continues to explain to Alice about the words, “…adjectives you can do anything with.” And the first two of the three words in “environmental, social and governance” are adjectives, while “governance” is a noun.
As with environmental investing, the indeterminate standards of “social” investing make it a hodgepodge of values and almost entirely subjective, at least for now.
Because it is subjective, social investment has, for some, taken on a decidedly leftist political agenda. BlackRock CEO Larry Fink, a long-time associate of Democratic and left-wing political causes, pressured Walmart and Dick’s Sporting Goods to stop selling guns by saying BlackRock would pull stock from companies from its ESG exchange-traded funds after the Parkland shootings in 2018.
As BlackRock is the largest asset manager in the world, with $10 trillion in assets, Fink is able to bully and “big foot” the portfolio of companies BlackRock is invested in with his social views. While Fink vehemently insists on what he calls “[s]taker capitalism is not about politics. It is not a social or ideological program. It’s not ‘woke’,” he praises the political activities of his associates, for example, citing the Atlanta bureau chief BlackRock for approving hate crimes legislation. (Although the hate crimes bill passed, it was not without opposition.) So it seems that Fink’s version of “S”, his “stakeholder capitalism” is, indeed , at least somewhat political, despite his protestations to the contrary. (And Fink’s $10 trillion under management allows him to be “what has to be the master,” in Carroll’s words.)
McKinsey, the consultancy, also backs a more left-leaning social investment narrative, invoking the same “diversity and inclusion” buzzwords that are part of the “diversity, equity, inclusion” (DEI) movement and sparked controversy and division of the type described in this report on a Georgian high school struggling with this problem. McKinsey consultants say the
“S, social criteria, is about the relationships your business has and the reputation it has with people and institutions in the communities where you do business. S includes labor relations and diversity and inclusion. Each business operates within a larger and more diverse society.
That’s not to say that social investing is necessarily a bad thing, just that it’s been co-opted and subjected to some of the same political influences as the rest of our culture.
Most impartial people would agree that there should be no inherent discrimination in the workplace and that customers, suppliers and employees should be treated fairly and objectively. But as discussed above, there has undoubtedly been an effort by some to steer social investment towards a defined political and social agenda, primarily that of the left in politics. But, unfortunately, some companies have seen social investment as a way to create what appear to be race- and gender-based hiring quotas that are inherently unfair and, likely, unconstitutional or even illegal.
It doesn’t have to be that way.
How apolitical is social investment?
As with the environmental element of ESG that I discussed in the previous article in this series, there are objectively useful elements of social investing that can and should benefit investors and add value.
S&P Global (S&PG), the economic intelligence firm, for example, uses a more objective set of measures, with a closer link to financial results, to advise clients on social investment risks. For example, S&PG considers things like labor relations, supply chain vulnerabilities, and political and geopolitical issues in key markets and jurisdictions where suppliers are located. The Boston Consulting Group brings a similar, apolitical, value-added approach to social investment considerations.
Close monitoring of activities that may seem extraneous to a business, but are nevertheless integral to its success, is essential and makes good sense. Investors need to know how strong a company’s supply chains are or whether they are threatened by potential labor issues, regulations, or political and geopolitical developments. They need to know if a company has and enforces policies and procedures that improve reputational risk from things like foreign corrupt practices law, sexual harassment, discriminatory hiring, insider trading, or links with associations, governments or people who would push the company into undesirable situations. a controversy that could cost sales, resignations, boycotts, or simply damage to a company’s brand.
We’ve seen this many times over the years: Subway, for its ties to convicted pedophile Jared Fogle; Starbucks, for its seemingly discriminatory policies; McDonald’s, for its CEO violating company policy on fraternization; and several other executives for various forms of sexual harassment, misconduct, or policy violations. Ben & Jerry’s ice cream and its parent company, Unilever, have been harmed by the ice cream company’s participation in the left-wing anti-Israel “Boycott, Divest, Sanctions” movement.
But measuring those issues that are foreign to a company’s core operations is difficult, and quantifying them in a metric that allows comparisons between competing companies in an industry is virtually impossible.
Within a company, an independent reviewer of a company’s social elements should “dive deep” into things such as human resource department records, purchasing records and supply chain logistics, marketing and even social media and senior executive brokerage accounts. Outside of a business, the reviewer should be well aware of developments in the market, business locations, and vendor locations of the business, as they may be affected by government, labor, society, and d other developments specific to their sector of activity.
External consultants could keep companies informed, at least quarterly, of social, political, regulatory and geopolitical risks to their markets, suppliers and supply chains. Within the company, it would appear that the “best” independent rating agencies of the social element of ESG investing can do is create an objective rating system, a list of criteria with “yes whether or not” regarding the company’s compliance with social practices that could affect the company, such as employee screening, training and enforcement of the law against sexual harassment, monitoring of stock transactions, etc. . But the quality of conformity would necessarily be subjective from the point of view of the evaluator. The subjective nature of the review is not a critical failure (bond rating agencies have to do it all the time, for example), but investors should be aware that there is no “clear line” when a company qualifies as an “ESG” investment.
As with most other investment decisions, in social investing, caveat emptor, or “that the buyer – or, here, the investor – beware”. And avoid the sophisms of those who would put you on the other side of the mirror.