The movement of investment capital into funds that seek to effect positive change has been substantial in recent years. Environmental, social and governance (ESG) assets rose to more than $35 trillion in 2020 to account for more than one-third of total global assets under management, according to the Global Sustainable Investment Alliance. This figure is expected to rise above $50 trillion by 2025.

Despite this rapid growth, there remains deep skepticism about the effectiveness of the ESG framework. Some of this is because ESG classifications and regulations remain somewhat underdeveloped. There is still significant ambiguity about what investments can potentially be defined as ESG compliant. It was only in November 2021, for example, that the Chartered Financial Analyst (CFA) Institute published new guidelines on ESG product-level disclosures in the United States. In Europe, the challenge of consistent ESG labeling was highlighted by the implementation of the Sustainable Finance Disclosure Regulation (SFDR) across the continent in March 2021, following which more than $2 trillion in assets had ESG labels dropped.

ESG: A Defensive Framework
At its core, it is important to remember that ESG is only intended to be a risk framework and should be judged as such. While an ESG fund’s specific approach or theme can vary, ESG is fundamentally defensive, informing what an investor does not invest in as much as what they do.

An ESG framework is designed to systematically incorporate relevant factors—e.g., sustainability, climate change and environmental impact, emissions, or racial and gender equality—into the selection process, helping investors to identify opportunities and risks that might be material to performance. It is effectively a screen, defending investment returns from ESG-related risks.

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