As an adjunct professor of impact investing, Jason Britton has a lot to say on the alleged death of ESG. Here, Britton argues that ESG investing is poised to undergo a transformation — a welcome one — thanks to an SEC rule update (maybe not the one you’re thinking of).
On the right edge of the political spectrum, we see legislatures in deep-red states forbidding public worker pension funds from investing in ESG funds. The reasoning is sometimes far-fetched, involving some purported woke conspiracy. There is a lot of hyperbole in those debates, but what Republican state legislators see as Big Finance pushing a liberal agenda on Corporate America can more calmly be seen as corporate executives listening when the investors who control trillions of dollars in capital explain what they consider best practices and the desires of their investors. And if anyone on the right believes ESG fund managers are crusading against fossil fuel companies, someone should tell them not to worry, that some of the largest “ESG” funds out there are loaded with Big Oil company equities.
The presence of fossil fuel companies in those portfolios is a big factor in the political left’s disdain for ESG as merely marketing and “greenwashing.” They have a point there, but it ought to be noted that’s only the E part of ESG. A weapons manufacturer or coal mining company might score well for its community engagement, or for keeping gender equity concerns in mind when choosing vendors, which is typically thought of as the S part, all the while maintaining stellar corporate governance practices, with multiple independent directors and an unconflicted compensation committee to make sure that management doesn’t enrich themselves unjustly at the expense of shareholders, which is the G part.
That leaves the commonsense middle where I, a professional money manager and product engineer for over 20 years, live and work. My career, including those I have spent as a professor of impact investing, has centered on what laypeople would call ESG investing. ESG investing, as I practice it, is an approach to risk management around tangible and intangible items that dramatically impact a company’s operations and in turn its bottom line, the most important line to fiduciary investors.
So ignoring the notion that ESG investing is left-leaning asset managers destroying America one gender-neutral bathroom at a time, or the rapacious capitalistic approach to selling snake oil to the hippies, I will concede that the definition and approach to ESG investing is in the eye of the beholder and most often its holdings and execution would at the least surprise and at worst appall typical retail investors.
Enter the Names Rule expansion.
Updating the Names Rule
If ever there were a case for common-sense regulation, this is it, and that is precisely what happened in 2023. In September, the SEC updated Rule 35d-1, commonly known as the Names Rule, to include ESG terminology. The rule has long required investment fund names that include terms such as growth, value, large cap, etc, to have at least 80% of the fund’s holdings to reflect that terminology. Beginning in September 2025, when the updated rule takes effect, funds with names that include terms like “sustainable” will be required to meet that same threshold.
Prior to September 2023, when the SEC passed the rule and technically not until 2025, fund managers could just slap the label “ESG” on any old thing and no one held them accountable for what was in their strategy. There are more than a few cases of a fund family taking a withering strategy with low assets under management and sprucing them up with a new name and marketing materials and presenting themselves suddenly as ESG — shame on you, you know who you are!
But why? As it turns out, despite the shouting from the echo chambers of the extreme left and right, investors care very much about the planet they live on, the products they consume and the companies that make them. And for all its faults and shortcomings, ESG as a term and an industry at least shone a light on the idea that you could (and maybe should) care if your investments that are supposed to be for the benefit of future you are diminishing the likelihood of a future you.
Success brings controversy
It is the consumer interest in the ESG movement and its success that has landed us here. In fact, there is so much controversy around ESG now that it is easy to forget that it started off without much controversy at all. Mainstream investors saw it as a thoughtful way to incrementally add value that would generate alpha in return. By internalizing environmental and sustainability standards, companies could draw a straight line from cost saves to the bottom line. So, companies switched to low-flow toilets, built LEED-certified buildings, printed on both sides of the paper, etc. They captured the cost savings and became more efficient.
That was a narrative the market could get behind. ESG was used as a tool to segment companies into buckets based on their behaviors and attitudes. The political right was generally tolerant, if skeptical, about ESG so long as it was used that way. It was just a way to identify companies that were choosing to do these certain things because they believed there was a business reason for it. People on the right generally didn’t ascribe any value to these efforts but if companies on their own chose to do it, then fine, go ahead.
The term ESG is fading, but the spirit of ESG is thriving
As I mentioned, I’ve spent my career in this type of investing. I have been a champion for better data, more disclosure and the expansion of the Names Rule by the SEC. I am optimistic about the future of investing, regardless of what it’s called, that incorporates the consumer’s preferences and values.
However, I doubt very much the term “ESG” will continue to be heard in corporate boardrooms, or read in corporate reports, for much longer. The term is damaged. A cursory analysis of ESG funds reveals glaring disconnects between what’s in the fund and what retail investors think they are investing in. I anticipate lots of changes to strategies or fund names between now and September 2025.
Until then, in my opinion, ESG as a concept isn’t dying; it’s quietly and stoically carrying on. Evidence of this can be seen in “greenhushing,” the corporate practice of setting sustainability goals without making any public announcement about it. There is more to this than just corporate managers being averse to criticism. They see real value in the ESG metrics. For that matter, corporate greenwashing is a tacit acknowledgment that the public wants companies to set and meet ESG goals. And it doesn’t really matter if those goals are filed under ESG, or some new acronym that just hasn’t caught on yet.
Jason Britton wears many hats. He is an adjunct professor of thematic investing at the College of Charleston School of Business, and founder/president/CIO of Reflection Asset Management, a boutique RIA specialized in building bespoke thematic portfolios for high-net-worth clients. He is also founder and CEO of Reflection Analytics, a fintech company specializing in ESG investment evaluation, reporting and advisory services.
