Global ESG Policy Developments: Understanding Their Impact on Wealth Management
In recent years, Environmental, Social, and Governance (ESG) considerations have become increasingly important for investors and wealth managers alike. It has also become increasingly clear, that while rising energy prices put inflationary pressure on the monetary systems, failing to address the climate crisis does so even more, especially in the mid- to long term. Governments around the world have taken notice and have begun to implement policies that encourage ESG investment and incorporate ESG factors into investment decision making, complementing policy decisions. In this article, we will explore some of the key global ESG policy developments and their impact on the wealth management industry.
The European Union’s Action Plan and follow ups
The European Union (EU) has been at the forefront of ESG policy development, with the launch of its Action Plan on Sustainable Finance in 2018. This plan sets out a comprehensive framework for sustainable finance, including the integration of ESG factors into investment decision making and the promotion of sustainable investment. The EU has also introduced new regulations that require financial market participants to disclose their ESG-related risks and opportunities, helping investors to make informed decisions. This has been followed up by the Renewed sustainable finance strategy and implementation of the action plan on financing sustainable growth. The plan contains such actions as "Fostering Investment in Sustainable Projects," "Strengthening sustainability disclosure" and a Green Bond standard.
The Task Force on Climate-related Financial Disclosures
Another significant global ESG policy development is the Task Force on Climate-related Financial Disclosures (TCFD), established by the Financial Stability Board in 2015. The TCFD provides a framework for companies to disclose information on their climate-related risks and opportunities, which helps investors to assess the potential impact of climate change on their investments. The TCFD recommendations have been widely adopted by companies around the world, with over 1,000 organizations reporting in line with its recommendations.
The United States’ ESG Investment Landscape and the Inflation Reduction Act (IRA)
In the United States, the ESG investment landscape is rapidly evolving, with an increasing number of investors incorporating ESG factors into their investment decisions. The U.S. Securities and Exchange Commission (SEC) has also taken steps to promote ESG investment, with the release of its interpretive guidance on ESG disclosure in 2020. This guidance clarifies the obligations of companies in relation to ESG disclosure, helping investors to make informed decisions. Besides re-joining the Paris Agreement by the Biden Administration, the latest and most impactful development was the signing into law of the U.S. Inflation Reduction Act (IRA) on August 16, 2022. According to Credit Suisse, "the Inflation Reduction Act 2022 (IRA) – containing sweeping tax credits/incentives and grants/loan programs across multiple industries – is the most ambitious and comprehensive legislative action the United States has ever taken on addressing climate change." The massive regulatory and financial framework -worth 369 billion USD - will have significant impact on investments in ESG, green energy, and re-directing capital flows towards sustainable growth in the U.S. and beyond.
COP 27 and COP 15
The 27th Conference of the Parties (COP27) concluded on November 20, 2022, after two weeks of intense negotiations on international climate action. Despite some historic agreements on climate funding, the conference fell short in advancing global commitments to reduce fossil fuel usage and mitigate climate change.
At COP27, the nearly 200 participating countries agreed to establish a fund to support nations suffering from the impacts of climate change, such as droughts, floods, and rising sea levels. This new fund structure is set to be established by the 2023 annual summit. Unfortunately, the conference did not significantly increase commitments to reduce coal use, despite the agreement reached at COP26 on tapering coal usage.
COP27 did emphasize the importance of private sector accountability and action, launching the International Organization for Standardization Net Zero Guidelines. These guidelines provide companies with guidance on how to set and achieve authentic and measurable climate targets. The guidelines also emphasize the need for companies to complement long-term net-zero goals with interim objectives and only claim to reach net-zero emissions after taking all possible actions to reduce carbon emissions.
After COP27, the UN Biodiversity Conference (COP15) took place in December 2022 and resulted in the Kunming-Montreal Global Biodiversity Framework (GBF). The GBF aims to address biodiversity loss, restore ecosystems, and protect indigenous rights and includes a commitment to conserve at least 30% of the planet's lands and oceans and restore at least 30% of degraded land and ocean ecosystems by 2030. However, the GBF is not legally binding and lacks strong language on halting extinction or setting specific targets.
The Impact on Wealth Management
The global ESG policy developments have had a significant impact on the wealth management industry. Wealth managers are increasingly incorporating ESG factors into their investment strategies and advising clients on ESG investment opportunities. This has led to a growing demand for ESG investment products, with many wealth management firms offering ESG-focused investment options to their clients.
A topic key to the philosophy and economic approach of Nomica is Natural Capital Finance. Its rapid rise in the investment community and policy making marks a seismic shift in how global communities are addressing climate and sustainable development. Natural capital finance, which involves conserving nature and biodiversity, has been gaining interest among institutional investors. It is now the fastest-growing Environmental, Social, and Governance (ESG) theme in global capital markets, according to the Association for Financial Markets in Europe (AFME). AFME recognizes debt products as the most common form of natural capital finance and identifies natural climate solutions (NCS) as an effective but underfunded means of mitigating climate change. NCS involves conservation, restoration, and land management initiatives that increase carbon storage and reduce greenhouse gas emissions. Currently, only 2-3% of public climate financing is invested in NCS, leaving a significant opportunity for private finance to invest in this area. A marked increase in activity in this field is expected in 2023.
In addition, the State Street report “Making Sense of Sustainability” highlights the importance of transparency and traceability in the ESG investment landscape. It notes that investors are increasingly demanding transparency and traceability from companies and wealth managers, and that governments are taking steps to ensure that ESG-related risks and opportunities are disclosed to investors.
In order to meet the growing demand for transparency and traceability in the ESG investment landscape, wealth managers and companies need to implement robust ESG reporting and disclosure practices. This includes the use of independent, third-party ESG data and ratings providers, as well as the adoption of consistent ESG reporting standards.
Nomica recognizes the importance of transparency and traceability in ESG investment, and is committed to providing quality ESG products. Our investment products are designed with impactful projects to deliver sustainable outcomes, while also incorporating measurable actions recorded on the blockchain and adhering to strict certification and disclosure standards.
In conclusion, the heightened attention on Environmental, Social, and Governance (ESG) has led to the development of policies by governments, with the European Union and its Action Plan on Sustainable Finance and the TCFD, and the U.S. Inflation Reduction Act of 2022 being notable examples. Wealth management firms have responded by offering ESG investment options to meet the increasing demand from investors. However, to truly meet this demand, transparency and traceability must be at the forefront. Wealth management firms and companies must implement robust ESG reporting and disclosure practices that prioritize transparency, utilizing independent ESG data providers and consistent reporting standards. Nomica understands the importance of this and is fully committed, offering ESG investment products that prioritize transparency and traceability through measurable actions recorded on the blockchain and adherence to strict certification and disclosure standards.