ESG Investing Will Have A Good Year In 2024, Despite Turmoil In The U.S.

Critics have raised plenty of fire and brimstone in their opposition to investments made through the lens of environmental, social and governance (ESG) principles, but most of that energy has gone to waste. The ESG movement continues to gain momentum globally, and research shows that anti-ESG laws passed in the U.S. had a limited impact. In fact, the only clear losers appear to be the very people that anti-ESG legislation ostensibly aims to protect.

ESG investing gains global momentum while facing headwinds in the U.S. in 2023

The firm Russell Investment has surveyed how the investment management industry integrates ESG principles for the past nine years. Its 2023 survey, released in October, observed “the United States remains mired in a contentious debate” over ESG. That presents a sharp contrast with global jurisdictions that have strengthened their ESG reporting mandates, most notably Canada, Europe and Australia.

The contrast is also reflected in the adoption of the Net-Zero Investment Framework, a set of guidelines to help investors align their holdings with the global push to cap temperature rise at 1.5 degrees Celsius this century. Russell found that 80 percent of the managers surveyed in Europe had already signed on, with the U.S. lagging far behind at just 20 percent.

Others including the sustainable investing asset manager Robeco also noted a growing "ESG backlash in the U.S." in 2023. 

The big question is how financial firms are handling the oppositional environment in the U.S. Some have simply decided not to use the acronym “ESG," without actually changing how they use ESG principles. Those taking this approach include the world's largest asset manger, BlackRock, CEO Larry Fink said at the Aspen Ideas Festival in June. 

Marjella Lecourt-Alma, CEO and co-founder of the ESG and risk management platform Datamaran, has noticed a similar shift in the way clients talk about ESG. “Some of them say we watch our words a little bit. They are bringing back things like 'corporate sustainability,'” she told TriplePundit in December.  

Kris Tomasovic Nelson, senior director and head of ESG investment management for Russell Investments, agreed. “ESG factors are increasingly driving investment decisions,” he told Pensions & Investments reporter Hazel Bradford earlier this month, but “the door is open to using different terminology.”

He hastened to note that strategies at many U.S. financial firms still include ESG principles, even if companies are more careful in talking about them, and said he doesn't see the U.S. situation impacting the global landscape. "Outside of the U.S., I don't see any slowing of momentum," he added.

Taking the anti-ESG bull by the horns heading into 2024

As of last year, 22 U.S. states adopted some form of "anti-ESG" legislation that seeks to limit how ESG principles can be used in investment decision-making or minimize investment in specific funds and firms, according to the law firm K&L Gates. Republican legislators in 12 different states enacted such legislation in 2023 alone, according to an S&P Global analysis. Many were “revised and weakened as they moved through the legislative process,” S&P reported, though they still have had a “chilling effect.”

In another strategy for navigating this complex landscape, some U.S. investors are taking advantage of vague language in these laws to forge ahead. 

Earlier this week, for example, Financial Times reporter Will Schmitt highlighted the case of the Texas Permanent School Fund, which deployed an opening in the state’s strict anti-ESG law to put $300 million into an energy transition fund under the Macquarie Green Investment Group. The investment occurred in 2022, shortly after the Texas state comptroller published a “blacklist” of forbidden firms that included Macquarie's energy transition solutions fund.

“The investment highlights how fiduciaries are finding ways to navigate gaps in rules designed by conservative officials to keep environmental, social and governance considerations out of public investment portfolios,” Schmitt observed.

In other states, fiduciaries are taking matters even further into their own hands. The Oklahoma Public Employees Retirement System, for example, avoided a potential loss of $10 million when its board voted to retain BlackRock and State Street as investment advisors, even though the two firms were on an anti-ESG blacklist compiled by the state treasurer, S&P reporter Karin Rives observed in an analysis published last week.

"If we thought that we could have abided by the law without hurting the pension fund, we would have done that in a heartbeat. But we have a fiduciary responsibility," Oklahoma's insurance commissioner, Glen Mulready, told Rives.

Some U.S. firms have also lobbied their representatives in state government for changes to proposed legislation, in hopes of preventing the worst damage.

U.S. public funds face outsized risk under anti-ESG legislation, new analyses show

Despite these workarounds, anti-ESG legislation is impacting public funds, and not in a good way. The supporters of anti-ESG legislation claim the laws are needed to protect the financial interests of pensioners and other members of the general public. However, they neglect to mention that financial firms can simply pack up and take their business out of state.

One such example occurred in Texas, where legislators passed an anti-ESG law in 2021. The new law immediately reduced competition in the municipal bond market, costing the small city of Anna an estimated $277,334 on its bond sale.

That’s just the tip of the iceberg. Texas cities could pay up to $532 million in additional interest on their bonds in less than a year under the legislation, according to an analysis from the University of Pennsylvania and the Federal Reserve Bank of Chicago. 

“In Indiana, a bill to limit ESG investing could cut state pension returns by $6.7 billion over the next 10 years,” former Maryland Attorney General Brian Frosh and former Maryland State Treasurer Nancy Kopp wrote in Bloomberg last year, while the Arkansas Public Employees Retirement System risks losing $30 million to $40 million annually.

Karin Rives of S&P Global also cited an analysis by Econsult Solutions Inc., which estimates that six U.S. states could be hit with $708 million in higher borrowing costs due to anti-ESG laws impacting municipal bonds.

In the face of these swift and damaging results, it is fair to ask how legislators and other public servants could miscalculate the impact of anti-ESG laws so badly, especially when they were warned of the risk. They're poised to lose more ground in 2024, as analysts including Thompson Reuters predict ESG will have a transformational impact on business models as more companies focus on reducing their Scope 3 supply chain emissions.

And investors will follow the money, as they always have.