Column Lisa Becking: Average

Institutional investors could be catalysts for climate change.

Text: Lisa Becking

Code red for humanity. The conclusion of the latest IPCC report calls for rapid change. Institutional investors such as ABP, the pension fund for government and education, could be catalysts for this change.

Recently, social pressure has increased on pension funds to make their portfolios more sustainable. It’s a daunting task to figure out which companies do not harm the environment, are socially responsible and treat their employees decently – the so-called Environmental, Social and Governance (ESG) criteria. Pension fund managers purchase the information from ESG-rating providers as a compass for responsible choices.

With teams of analysts and spectacular software, ESG-rating providers collect information and transform it into scores on various issues such as carbon footprint, biodiversity and human rights. Each company also receives an overall rating for ESG.

The largest provider of ESG-ratings, MSCI-ESG, maintains three categories: ‘Laggard’, ‘Average’ and ‘Leader’. ‘Average’ is the ESG-rating assigned to the mining giant Rio Tinto, which last year blew up ancient caves and sacred Aboriginal heritage in Australia for iron ore extraction. The CEO had to step down for this irreversible destruction, but the dynamite did not overturn the company’s ESG rating. Similarly, Exxon Mobil maintained an ‘Average’, even after a leaked internal report revealed plans to significantly increase their carbon emissions over the coming years.

How can these be average activities? The ratings are relative to other companies in the same sector. If no one is doing so great, it’s easy to be average. In addition, the rating system allows for compensation. You might score poorly on biodiversity, but respect human rights. I understand that not every company can score well on everything, but some things should not be softened by averaging out.

There is an incentive for ESG-rating providers to define criteria that allow investors to select from a broad pool of sustainable companies. The ‘average’ basket risks becoming so large that it offers little distinction. The question is: how do pension funds determine their own ESG scores? Do they use science-based thresholds?

Not only is rapid responsible change necessary, but also a critical look at the criteria on which the choices for change are based.

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