Global efforts to tackle climate change—while long overdue—are growing. Although the EU was one of the first major markets to impose mandatory environmental, social and governance (ESG) reporting rules on investors, other leading economies are following suit. This comes as many countries outside the European Union (EU) gradually shift away from their traditional "market-driven" approach towards ESG disclosure and compliance. While global standards are still being defined, there are practical ways that asset managers can begin to integrate ESG into their portfolios, says David Petiteville, Director of Regulatory Solutions at RBC Investor & Treasury Services.
1. ESG regulation goes global as more major markets follow the EU’s lead.
The UK is in the process of introducing a bespoke ESG reporting framework and green taxonomy. "The UK government announced its support for the TCFD (Task Force on Climate Related Financial Disclosures) with the ambition to be the first G20 country to make such disclosures mandatory for investment firms," said Petiteville. He added that, since inauguration of the new Biden administration, the U.S. Securities and Exchange Commission (SEC) has announced that it would like to see mandatory ESG disclosure rules apply to corporates. Similarly, Petiteville said that the Canadian Securities Administrators, one of the country's key regulators, has published guidance for issuers to help them determine what environmental information should be published in their various disclosure documents. On the other side of the world, the authorities in Hong Kong are also scrutinizing green and sustainable finance.
2. Alignment of different ESG regulations is crucial if targets are to be met.
While national regulators are implementing their own ESG rules, global standards on this issue are becoming more ubiquitous. Standardization is key, if financial institutions are to adopt ESG successfully.
Standardization is key, if financial institutions are to adopt ESG successfully
"We all need to work together and the standards must move in a single direction. Similar to the Basel Committee on Banking Supervision, which defined a set of universal rules for credit institutions and commercial banks, global standards on ESG are urgently required," said Petiteville.
3. Despite the sizeable volume of ESG rule-making, asset managers need not panic.
The litany of ESG rules and standards introduced by national and global regulators could be seen as somewhat intimidating for asset managers and their compliance arms. Instead, managers should think practically about how to approach ESG.
"I would certainly recommend that asset managers invest time into looking at how they collect data and begin preparing one of the international reports covering sustainability, such as the TCFD, before adding it to the information that they are already sharing with investors," noted Petiteville. "And if they need to start with something, focus on the 'E' of 'ESG,' as this is mostly the focus of the different governments."
4. There are signs that standardization of ESG rules is slowly beginning to emerge.
The establishment of the ISSB (International Sustainability Standards Board) by the IFRS (International Financial Reporting Standards) Foundation will consolidate a number of existing standards. These include the CDSB (Climate Disclosure Standards Board) and the VRF (Value Reporting Foundation), which was the product of a merger between the SASB (Sustainable Accounting Standards Board) and the IIRC (International Integrated Reporting Council).
The COVID pandemic has drastically increased the attention being paid to the environmental and social elements of ESG
"The COVID pandemic has drastically increased the attention being paid to the environmental and social elements of ESG, and has really pushed the agenda forward. With the creation of the ISSB and the consolidated approach of the SASB and TCFD, we may see even more alignment than before," commented Petiteville. "And with the EU initiatives underway, you already have 27 countries fully aligned, including some important financial markets."
5. Waiting for a single set of ESG standards could hamper the intent of the ESG movement.
Holding off on the implementation of ESG policies until a common set of standards emerges will undermine efforts to mitigate environmental degradation and combat social injustice. As a result, a failure of asset managers to integrate ESG into their portfolios in a timely fashion is likely to have serious consequences.
"Firms should not wait until there is a single set of ESG reporting or data standards before they adopt an ESG investment approach. The ESG topic is too big to be addressed in one day. If market participants are expecting to have a set of perfect rules and sources of information, then they will struggle to implement their ESG strategy or reporting, and could ultimately be subject to regulatory penalties and a loss of competitiveness," explained Petiteville.