31st July 2023

Extremely Short-sighted Governance, ESG madness continues

Is de-banking, something that seems to be happening in very large numbers, an unintended consequence of the interpretation of ESG rules by firms and directives from the FCA?

Earlier last week we updated you on the ongoing scandal of the de-banking of those considered to be ‘not one of us’ A lot has gone on since then. 

NatWest was engulfed in a full-blown crisis after its chief executive and that of Coutts was forced to quit.  Shares plunged, wiping hundreds of millions of pounds off the group's value, amid calls for the whole board to go over the scandal.   

The only man standing was and still is NatWest Chairman Sir Howard Davies who when the debacle started to unravel, gave the classic football club chairman vote of confidence in support of Alison Rose.

Davies will be remembered fondly by IFAs as the man who was not seemingly responsible for anything during his tenure at the now defunct FSA. A man with form for snatching defeat from the jaws of victory.

In its short life, the FSA failed to rein in the banks and even encouraged the City to explode in the mid-2000s with a "light touch" approach to regulation. It did not notice that Northern Rock was built on such shaky foundations that it could easily run out of money and failed to prevent the takeover of ABN Amro by RBS just as the credit crunch was biting in late 2007.

MPs had accused the watchdog of being 'asleep at the wheel' in the run-up to the financial crisis. 

Critics questioned, at the time, whether Sir Howard was the right person to run RBS, now NatWest – which is still part owned by taxpayers. Jonathan Isaby, chief executive of the Taxpayers' Alliance, said then: 'His record doesn't inspire tremendous confidence.

Fast forward to the FSA successor, the FCA. It revealed plans in October 2022 to scrutinise companies use of terms like ‘ESG’, ‘green’ or ‘sustainable’ in a bid to prevent firms from misleading investors.

In January 2023, Harriett Baldwin, the chair of the influential Treasury committee had slammed the FCA over its planned ‘greenwashing’ rules, claiming the regulator landed on “suspiciously round numbers” to justify the plans and questioning the methodology it used to reach its conclusions.

This week, several high-profile Conservatives and ex-finance industry leaders have written to the Chancellor expressing worries that the FCA may have unintentionally fostered the banking culture that led to Nigel Farage’s loss of his Coutts account writing “The FCA has actively been pushing an approach that imposes a cultural shift and diversification of thought in banks and other financial firms.”. 

Those signatories also voiced their concerns about the FCA enforcing ESG changes, arguing that the interpretation of ‘environmental’, ‘social’ and ‘governance’ is debatable at best.

The letter continued, “The FCA seems to be creating and implementing ambiguous rules, including those known as ‘Principles’, that allow various interpretations.”

Is the drive toward ESG-type investing and the associated regulation providing the fuel to a fad that will go away or is it a simple, sinister Trojan horse activity undermining the system, hurting investors, companies, and the economy? 

For example, the ESG craze and fear of regulations in recent years heralded the ensuing underinvestment in the oil and gas industry (something Sunak has tried to address this week) and may have shifted not only the oil price dynamics, but also that for all commodities.

Pushing corporations and fund managers toward ESG, ESG ratings and other criteria may erode shareholder value considering the upfront costs of many ESG strategies, such as reporting, legal, staff training and compliance costs, as well as the new regulatory requirements that introduce additional costs to the ESG fund management process.

Do ESG based investments make money, how do ESG factors affect the investment process? 

Answering these questions is not easy as the measurement of ESG ratings is very complex, and there is a lot of disagreement among ESG rating agencies about the proper way (if any) to measure ESG performance, as well as differences in ESG ratings provided by different ESG rating agencies. 

Methodologies differ because there are different ways that ESG rating agencies choose and aggregate ESG attributes, and in measuring these attributes. As a result, there is a lot of noise in the relationship between ESG scores and stock returns.

2020 studies by Damodaran concluded a while back that “a lot of money will have been spent, a lot of people (consultants, ESG experts and ESG measurers) will have benefited”.

So that is the ‘E’ bit out of the way, what about the ‘S’ and the ‘G’ in all this de-banking mess? 

What is missing from all of this are the letters T, C and F (TCF) now known as something completely different from this week- Consumer Duty (CD) In concentrating so much on the redundant ‘S’ and the ‘G’ side, CD has been completely lost in the ether!

So many letters, and not much more. What do you think?

Panacea Comment