In his letter to CEOs in January, Larry Fink, CEO of BlackRock and a prominent ESG (environmental, social, governance) advocate, wrote that “awareness is rapidly changing, and I believe we are on the edge of a fundamental reshaping of finance.”
Little could he have predicted the events that were about to unfold would ultimately underscore his prediction: The COVID-19 pandemic that has taken more than 1.5 million lives and counting, and brought the global economy to its knees. The murder of George Floyd brought renewed attention to the injustices experienced by people of color, sparking numerous protests that would prompt many companies to reevaluate their governance structures and the way they do business. Wildfires devastated Australia and later ripped through parts of the Western United States, as powerful hurricanes and typhoons made landfall in other parts of the world.
As we reach the end of a year that has felt like a decade, it’s important to note something positive for the future of business and humanity: The undeniable feeling that ESG is indeed beginning to reshape the way we do business, and that crisis can be a powerful force for change.
In the Worst of Times, ESG Outperformed
The global economy took a dive in early March, as much of the world began shutting down and staying home in response to the rapid spread of COVID-19. At the same time, ESG received growing attention—from January to April 2020 alone, investors poured a record $12.2 billion into funds with strong ESG practices.
Fast forward to the end of October: Morningstar reported that sustainable funds in the United States alone attracted a record $30.7 billion by that point in 2020. Sustainable funds garnered more flow between January and July than they did in all of 2019. And this growth followed a particularly successful year: 2019 set a record of $21.4 billion net flow—4 times higher than in any previous year.
Funds with strong ESG ratings also performed better than their standard counterparts, which may prove to be a testament to their ability to weather economic shocks. According to a November report by Fidelity, stocks with the lowest ESG ratings lost 23 percent from January to September while those with the top ratings saw a positive return of 0.4 percent suggesting that stocks with higher ESG ratings are less prone to volatility in the broader market.
Digital Tools Became Even More of a Necessity
Climate change undoubtedly affects humanity in significant ways, but this year a spotlight was shone on the more human elements of ESG—namely social and governance.
COVID-19 took the world by storm, with an alarming death toll and unknowable long-term health implications for those who contracted the virus but recovered. It also brought many industries to a grinding halt, shutting the doors permanently for some, while fundamentally altering daily operations for many others. A Gartner study conducted in May 2020 revealed that roughly 88 percent of business organizations worldwide have required or encouraged employees to work from home in the wake of the pandemic. What’s more, 98 percent of these workers said they’d like to continue telecommuting, at least some of the time.
Companies that were better equipped to run things digitally, providing access to essential information to support employees now working from multiple locations, undoubtedly made the smoothest transition to post-COVID-19 life.
Social and Governance Factors Took Center Stage
In June, as COVID-19 cases continued to rise and the global shutdown continued to drag on, one man’s death became a symbol of the Black Lives Matter movement and a stark reminder of the racial injustice that continues to plague society. George Floyd’s murder gave rise to a number of worldwide protests, and brought to light the names of many other people of color who have suffered similar fates.
For their part, many companies chose to stand in solidarity with the BLM movement and reexamine their own diversity policies, as employees, consumers, and stakeholders sought greater accountability from leadership. Companies that were able to quickly pivot to focus their attention on the issue and respond to stakeholder concerns fared far better than those with weaker, more ambiguous governance policies and inflexible mindsets.
Climate Risk Never Took a Backseat
Throughout the pandemic, many investors and legislators have not taken their eyes off of an enduring threat: climate change. The effects of our changing environment, in the form of either shocks like hurricanes and floods, or stressors like rising sea levels and heat stress, are being taken more seriously by investors and legislators.
In November, the UK government’s Finance Minister, Rishi Sunak, announced that climate risk reporting will become mandatory for large companies and financial institutions in the UK by 2025. The government committed to meeting and perhaps exceeding requirements set forth by the Taskforce on Climate-related Financial Disclosures (TCFD). Larry Fink made headlines again when he backed the UK’s decision and called for the United States to follow suit.
Clear actions are being taken by capital markets as well. Moody’s Investor Service, for example, revealed in August that it now incorporates climate risk data from Four Twenty Seven in ratings and research on US commercial mortgage-backed securities and commercial real estate collateralized loan obligations. Moody’s presale reports include a physical climate risk table for the property backing the loan, showing its exposure to floods, heat stress, hurricanes and typhoons, sea level rise, water stress and wildfires in the next 10 to 20 years.
The events of 2020 may have slowed much of the world to a grinding halt, but they have in many ways accelerated the changes necessary to make our businesses—and our society—more resilient to the challenges we face ahead. Though this year has shown that it can be incredibly tough to predict what’s around the corner, we believe that transparency, flexibility, and a clear baseline to develop more effective sustainability strategies in the years to come will propel many businesses into the future. Companies that take a modern, holistic approach—weaving environmental, social, and governance considerations into the fabric of everything they do—will have the best shot of succeeding in an uncertain future.