Over the past decade or so, investors have been signaling that they want to do good with their money by investing in companies that share their values. This interest has spawned a rapidly growing type of investing known as Environmental, Social, and Governance, or ESG. Globally, ESG investments have more than doubled in the past two years, increasing from $285 billion in 2019 to $650 billion in 2021, and now make up roughly 10% of investment funds worldwide (1).
Because of the rapid growth and lack of oversight for this new investment category, the industry has been plagued with greenwashing. Greenwashing is characterized by exaggerated claims of sustainability and social responsibility that are marketed to curry favor from those who care about ESG, including consumers, investors, and employees. One study estimates that 55-70% of funds promising ESG goals exaggerated or fell short of their claims (2).
To combat greenwashing, the Securities and Exchange Commission (SEC) proposed a new rule earlier this year directed at ESG disclosure and naming practices (3). For example, the pre-existing Names Rule would be expanded to any fund name with terms suggesting that the fund focuses on investments that have (or whose issuers have) particular characteristics.(1) In this case, funds with “ESG” in their name would be required to prove that 80% of its assets fall within clearly defined ESG parameters.
The proposed rule would also require more specific disclosures for ESG funds regarding the ESG strategies used to develop the fund. The Environmental component of ESG funds would be required to have disclosed greenhouse gas (GHG) emissions. Additionally, ESG impact funds that have a stated goal would be required to describe the fund’s impact more specifically and report its progress over time (4). The SEC also proposes a standardized method of reporting and comparing ESG products (4). The rule is currently open for comment.
The proposal to invoke stricter regulations of ESG funds comes after the SEC debuted a rule stating that publicly traded companies must disclose how their business is affected by climate change risk as well as what impact their business practices have on climate change and the environment (1). The SEC has also recently been cracking down on specific investment funds that exaggerate their ESG claims, including fining a Bank of New York Mellon Corp. investment group for making false claims about ESG quality reviews (2). Goldman Sachs has also come under scrutiny by the SEC for exaggerating ESG claims in some of its mutual funds.
In general, the SEC’s goal is to protect investors by regulating and fostering a financial landscape that allows them to efficiently and transparently meet their needs. The goal of the proposed anti-greenwashing rule is to provide investors with more consistent, comparable, and reliable information regarding ESG investments.
While the proposal makes necessary and significant strides toward a more trustworthy ESG investment landscape, one potential gap remains. If the SEC fails to provide or require clarity on the definitions of ESG-related terms like ‘sustainable’, ‘low-carbon’, ‘fossil-free’, and ‘green’, its ability to effectively reduce ESG greenwashing may continue to be severely compromised.
TrueShares ESG Activities Opportunities ETF (ECOZ) conducts individual evaluation of a company’s Environmental, Social and Governance characteristics within sector context. We believe this allows us to more accurately identify the most sensitive and relevant ESG categories in each industry, resulting in a more effective analysis than that of more typical binary ESG screens.
Learn more about TrueShares ESG Active Opportunities ETF (ECOZ) at www.truesharesetfs.com/ecoz.