With the rush of money into the area of "green" and ESG investing, a concern arises about how faithful investments are to such ideas. Greenwashing has become an oft-repeated concern. We talk to a wealth management firm about what needs to be done.

The phenomenon of “greenwashing” – pretending that one’s investments are “greener” and better for the environment (although those terms can beg a lot of questions) – is a hot topic in modern finance. Whenever there is a large rush into a new area of investment, particularly in times when conventional asset classes suffer low yields or volatility, it is right for clients to practise healthy scepticism.

Anyone who has lived through the big promises of the dotcom bubble, sub-prime mortgages, and so forth, will be cautious. The need for care is all the more important when the challenge of human-caused global warming is one raised by almost every major politician, central banker, financial institution and non-governmental body. It is, in fact, almost dangerous for wealth managers not to court the “green” investor. And, as a recent controversy about a former HSBC senior figure demonstrates, expressing doubts about some of the more alarmist predictions on climate change can cost a person their job. The global energy crisis, heightened by Russia’s invasion of Ukraine, has added to the challenges about what investors should do in trying to force change in a “greener” direction.

This news service recently interviewed Petra Posnikova, investment director at VAR Capital, a financial advisory partnership offering asset management, debt finance and family office services to global clients. We asked her about environmental, social and governance (ESG) investment, the challenges around it, and the responsibilities of the wealth sector. (See here for a previous interview with the same firm.)

In a broad sense, how large do you think the "greenwashing" phenomenon is? 
In recent years, social responsibility and climate action has progressed up both the individual consumer and corporate agendas. As a population we are at last becoming increasingly conscious of our carbon footprint and there is growing pressure for businesses and brands to be more sustainable. In general, this could be perceived as a good outcome as companies are investing more time and money in protecting our environment, consumers are more aware of the carbon cost of their lifestyles and the benefit to the planet.

The result of the increased consumer awareness is that people are willing to pay more for products and services that are deemed less harmful to the planet than others. In practice, however, some corporations are using this rising movement as a marketing and revenue generating opportunity through the process of greenwashing. 

Greenwashing is often defined as a tactic “to make people believe a company is doing more to protect the environment than it really is."

It is a PR strategy used by companies to capitalise on the growing demand for environmentally friendly goods and services. This helps them generate positive publicity, boost their brand image and increase profits without reducing their carbon footprint or their consumption of scarce resources.

Greenwashing has become more common over the last decade.

You can read about some examples here. However, consumers and governments are becoming increasingly aware and clamping down on this issue through frameworks such as the Green Taxonomy Framework. This results in companies being sued for greenwashing claims, including claiming to be carbon neutral without reducing emissions at source (as shown by Arla). Thousands of companies across the globe promote their green credentials with little or no information about what they are doing to reduce emissions within their organisation. Whether a company is promoting a new line of products that are environmentally friendly, promoting ESG investments that are not fully verified or claiming to be carbon neutral without setting and keeping to reduction targets, greenwashing is present in most aspects of our environmentally conscious world. It is up to consumers and regulators to identify and penalise those companies so that the true earth champions can be rewarded for their efforts.

Why is it so serious and what damage could, or has, been done to the ESG/green/sustainability agenda?
Greenwashing affects how individuals engage with the sustainability movement, often hindering the progress of helping to protect the planet. When there is a constant stream of misleading information, trust in sustainability efforts as a whole decreases. This makes it challenging to differentiate a greenwashed company from a genuine green company. Companies need to be extremely rigorous with evidence before making ESG claims because such claims can lead to both unintentional damage to the environment and hinder a company’s reputation and trust with the public.  

VAR Capital’s partners believe passionately in sustainability and have also invested in a sustainable tech company, Greenr. It is their strongly held belief that the first step for understanding any problem is to measure it. Greenr measures company emissions for free on their website and sets reduction targets to help companies reduce at source. Not only is this in line with Net Zero Frameworks (reduction by at least 90 per cent offset and no more than 10 per cent by 2050), it also helps employees and consumers believe in our client’s motivations for helping people and the planet be more sustainable. 

Have some of the concerns also been increased by certain governments and firms reversing course in view of massive energy demands (for example, Germany firing up old coal stations, etc)?
Although the current price of energy and the instability of natural gas sources have been a large concern in Europe, we believe, and very much hope, that this will also be the catalyst needed for renewables and EV/hybrid vehicles to really turn the tide this decade. Solar and wind energy has reached grid parity, i.e. the cost of producing 1 kwh of electricity using wind and solar is the same or lower than using natural gas/coal in many geographical areas around the world, including the UK. Therefore, the remaining difficulty preventing building new renewable energy or using more green electricity is due to political agendas, timing and supply chains. These are all matters that can be resolved relatively quickly with the correct motivations and, perhaps this rising cost of living crisis is the silver lining we are looking for.

Regarding greenwashing and ESG portfolios, there has been some progress made with the Green Technical Advisory Group (GTAG) which will oversee the UK Government’s delivery of a “Green Taxonomy” – a common framework setting the bar for investments that can be defined as environmentally sustainable. Within the Green Taxonomy, there is a severe clampdown on greenwashing, with the aim of making it easier for investors and consumers to understand how a firm is impacting the environment.

With publicly listed firms there is a certain level of data which they must disclose, but this can be different with privately held firms. A large chunk of total business is run by families and private owners. How can this area be viewed when there are concerns about disclosures and transparency?
When it comes to sharing a company's commitment to sustainability goals, whether privately owned or not, full transparency is the key to avoiding greenwashing. Sustainability should in no way be purely a marketing initiative as consumers will see straight through that. It is imperative that CEOs and business owners take ownership of their sustainability efforts and clearly describe the steps they are taking to achieve their ESG targets.

Also, externally reporting ESG initiatives should be a strategic priority for businesses. We have seen clients lose consumers to their competitors due to them having less impressive sustainability credentials, and putting pressure on companies to increase their responsibility. We have also seen companies lose existing employees and fail to attract new talent due to weaker sustainability credentials compared with their competitors. Gen Zs and Millennials are demanding to work for green companies and many are willing to switch jobs and even take a salary sacrifice to make this happen. 
 

How can data, analytics and technology help in this area? 
In theory, you can offset your yearly carbon footprint and be carbon neutral, however, in our partner Greenr’s experience, this is no longer enough on its own. If all individuals and companies continue to live an unsustainable BAU lifestyle and only offset all their emissions, we will soon run out of carbon offset projects. 

To avoid greenwashing claims, the key is reduction at source. To quote Greenr CEO, Dr Gabrielle Bourret-Sicotte, "the best tonne of offset you can purchase is one you have not emitted in the first place."

The first step on anyone’s sustainability journey should be to measure your emissions data. This can be done by calculating your organisation's scope 1, 2 and 3 emissions based on office bills and assumptions of employee commutes by using online Business Carbon Calculators such as Greenr’s (www.greenr.com). Scope 3 emissions are notoriously hard to compile as they account for employee activity. Using green tech online apps is a convenient way to crowdsource and aggregate homeworkers' emissions, employees' commute and business travel emissions and communicate those to employees to help refine those all-important scope 2 and 3 emissions.  

Tracking and communicating this important data allows organisations to set reduction targets as well as gamified pledges and competitions to engage the entire workforce in sustainability initiatives. This captured data also encourages crucial reductions at source. This includes making proactive and informed decisions to reduce carbon emissions. By uniting organisations and employees, an organisation ensures that the sustainability mission is company-wide, companies can also benchmark themselves against their competitors and win new clients and consumers by having an impressive reduction agenda. 

In conversations with wealth managers from other firms, clients, and other players, how much of a concern do you think there is about greenwashing?
It has been a growing concern, escalating with scandals surrounding numerous greenwashing probes, for example Deutsche Bank’s fund arm DWS Group, and Goldman Sachs Asset Management most recently. Investors have been demanding more clarity on the nature of their ESG and “sustainable” investments, fund methodologies and credentials. Clients, as well as market insiders, are quick to admit that ESG remains very hard to define and, despite increasing regulatory efforts, it is still riddled with vague definitions, a lack of rules and, often, a lack of transparency. (Editor’s note: DWS has strongly denied wrongdoing.)

Regulators have been aware of the issues and multiple frameworks are being put in place, leading to better protection of individual investors. Also, given the recent outflows from ESG funds in Q1 2022 and the last couple of months, “greenwashing” may be one of the reasons why some of the ESG funds are scrutinised. Therefore, it is an issue which should be urgently addressed.

What advice should the end client have about the risks of greenwashing, tips to avoid problems, etc?
Given the broad definitions of “sustainability” and “ESG investing,” it’s extremely important for clients to decide and understand what “sustainability” means to them. Does it mean excluding certain sectors or companies altogether, or would they prefer that their fund managers adopt the “engagement” rather than exclusion route, whereby shareholders actively focus on influencing companies to improve their sustainability standards and drive long-term, sustainable returns. Then, understanding the fund’s investment strategy in detail to judge how well the underlying holdings match the fund ethos also helps. Additionally, the fund manager’s track record, transparency and openness to discussion can add another level of comfort when deciding who to trust your money with.

Have some of the faults been exposed by weaker markets, inflation, and economic volatility? Was there a risk that this issue was covered when markets were rising? 
Rising markets can, to some extent, make matters easier to hide and recent market volatility and poor returns may have certainly led to greater investor scrutiny. There is a growing trend of clients wanting to have a much closer look at what their managers are really doing, how they are managing risk and whether their marketing matches their actions, which frankly, is the right thing to do.

How can advisors and other professionals be trained to spot problems and handle them rapidly?
They can do this by educating themselves about the mistakes of others, being on top of the regulatory framework, understanding that companies sometimes hide behind the “correct” language, and making the distinction between green products versus dirty companies, for example, energy-efficient products made in polluting factories. These can all make navigating the space easier. Furthermore, not relying solely on third-party data and scores which can often be opaque and, instead, by focusing on analysis of raw data (which is becoming more and more widely available) and creating their own methodologies is often invaluable.