How to spot “greenwashing” in ESG investments

Environmental, Social, and Governance (ESG) investing is a great way to make a positive impact. By investing in companies with sustainable strategies, you help to preserve the environment, and encourage fair practices. However, an increasing worry is the use of “greenwashing”, to make a company seem more sustainable than it truly is. Here are some common tactics used, and how you can spot them.

What is greenwashing?

Simply put, it’s when companies misrepresent their products and/or services in a bid to capitalise on increasing interest in sustainability.

As this article outlines:

• Greenwashing is a form of misleading marketing where a company or its products and services are repackaged and presented as "better" with respect to climate change, the environment, or society, without proper documentation to back this claim.
   
• Greenwashing firms may withhold the full reality of their credentials on environment or sustainability. Companies are usually transparent about third-party certification because these certifications are usually expensive and take a long time to achieve.

For a company to transit to more sustainable practices, expensive initial changes may be involved. The company may need to change its vendors, supply chain, manufacturing processes, and possibly even tweak its business model. 

As such, some companies may choose to simply promote their products or services using vague messaging such as “green”, “natural” or “eco-friendly” without further information or certification.

Here are steps individual investors can take to keep an eye out for greenwashing.

• Check that ESG ratings are from a trusted source
   
• Choose funds that describe sustainability goals and understand how they integrate ESG considerations into their investment process
   
• Know what’s in your ESG funds (seek an advisor that understands how the fund is really implementing ESG principles)
   
• Look past buzzwords and trends
   
• Be responsive to new discoveries and changes

1. Check that ESG ratings are from a trusted source

At present, there is no universal rating system for ESG. However, a number of established firms, such as MSCI, have set up comprehensive ratings systems for investors.

For example, the MSCI ESG rating covers over 8,500 companies, evaluating them based on their contribution to the environment, and their respective societies.

Some ESG funds require high ratings from multiple bodies – such as top grades from both MSCI as well as Sustainalytics.

In general, funds that carry BBB ratings and above can be considered to hold a higher level of ESG principles.

Do be wary of funds that claim to use “self-evaluation”, or ratings from an entity that is not recognised.

You can also consult your relationship manager to better understand your bank’s fund selection process and criteria, and how it engages fund managers on ESG matters.

2. Choose funds that describe sustainability goals

ESG funds that are serious about sustainability will show it in their reports. The Monetary Authority of Singapore (MAS) is already taking steps to require such disclosure from 2022, and the European Union has also implemented its Sustainable Finance Disclosure Requirements (SFDR) for better transparency.

In the meantime, you should see a fund’s or company’s sustainability goals in its financial reports. Beyond just fiscal performance, for instance, the report might show:

• How far it has progressed in a specific goal, such as lowering carbon emissions
   
• Contributions to sustainability projects, or social efforts (building schools, creating clean water infrastructure, etc.)
   
• Long-term tracking of ESG goals, such as reforestation efforts. These should not be episodic, but monitored over a period such as five to 10 years
   
• Understanding of the criteria used by a sustainability-related fund to determine the investible universe (whether based on ESG rating or revenue threshold of a company contributing to the sustainable agenda)

3. Know what’s in your ESG funds

With the proliferation of funds with “ESG” labels, it is important to look beneath the hood to better understand the fund strategy.

As a start, we should differentiate between ESG-integrated strategies from ESG-thematic ones.

ESG-integrated strategies consider E, S, G factors on top of financial ones to make a holistic investment decision. ESG-thematic funds on the other hand focus their investments on companies that have a significant portion of their revenue aligned to the sustainability theme. The typical portfolio mix for these two strategies will be very different and by understanding them, you can raise greenwashing concerns as and when it’s called out.

Global watchdogs, such as Greenpeace and Oxfam International, are quick to call-out companies caught greenwashing. However, ESG investors may not know their funds invest in these companies; or the degree of exposure involved. 

Damage to a company’s reputation does affect its bottom line. You may not want to be invested in a company caught in a PR disaster.

4. Look past buzzwords and trends

Greenwashing may tap on trends and “fads”. This is often accompanied by buzzwords such as “carbon neutral”, “non-GMO”, or – at one point in the 1990’s – “CFC free”.

Sometimes, these buzzwords can be meaningless. For example, all tomatoes in supermarkets are non-GMO anyway, so the label means nothing. 

Some of these labels involve hidden trade-offs. For example, clothing made of recycled materials may still be created under sweatshop conditions, or may involve delivery chains that impose a large carbon footprint.

Whether the buzzwords are used by a fund or a specific company, always look for deeper details. There should be clear information on how the product is more sustainable than its counterparts; as well as data on the environmental and social impact.

5. Be responsive to new discoveries and changes

Greenwashing is sometimes discovered after the fact. An example would be a car company using devices to deceive emissions testing. It’s a good idea to review your ESG investments at least once a year, to determine if it continues to meet standards.

You may also have to be responsive and make changes as new discoveries occur. However, do speak to a qualified financial professional before re-investing – you may want to time such changes to minimise overall risks to your portfolio.

The good news is, greenwashing is likely to grow more difficult, as ESG funds and investors become more sophisticated, and the ESG topic becomes more mainstream.

While there are still issues to be worked out, simply checking newsfeeds, or following non-profits and watchdog organisations, can keep regular investors informed. By staying in the know, you can ensure your investments have the best overall contribution to the world.