The key to avoiding greenwashing

The range of ‘sustainable’ or ‘green’ investment products is proliferating as investment managers respond to investor demand for action on climate change and more ethical and responsible investment options. But investors need to be on their guard against ‘greenwashing’.

What is greenwashing?

According to the Australian Securities and Investments Commission (ASIC), greenwashing is the practice of misrepresenting the extent to which a financial product or investment strategy is environmentally friendly, sustainable or ethical¹.

There is growing unease globally about the risks of greenwashing, which is due partly to the quick growth of this asset class, and partly to a lack of global or domestic regulatory standards or agreed on classification on what an ethical or sustainable investment is, and how ethical and responsible investment products should be labelled.² Until laws are introduced in Australia, investors need to be alert to ‘greenwashing’ and conduct their own research.

Ethical and responsible investment can be broken down into several categories:

• Environmental, Social, and Governance (ESG) integration
• Ethical investing
• Impact investing
• Sustainability-themed investing
• Best-in-class approaches
• Activist investing

Engagement is sometimes referred to as a style of ethical and responsible investment. But stewardship activities such as proactively engaging with companies and voting at company meetings can and should be applied over all types of investment to improve long-term financial outcomes and ESG performance.

Greenwashing Examples

ESG integration involves including consideration of ESG issues in investment decision-making. Often those considerations are subjective, and it can be difficult for investors to gain comfort that the manager does what they say they do. In Germany, for example, Deutsche Bank-owned manager DWS is facing legal action for allegedly misrepresenting the extent of ESG integration.

Best-in-class investing typically means picking the companies within a sector that rank highest on one or more ESG factors. Factors may be based on completely objective data or have some degree of subjectivity. A typical approach would be to rank companies on their ESG ratings as scored by a third-party research firm. An issue with best-in-class investing is it can sometimes mean ‘least bad’ and may not be consistent with the investor’s values or objectives. A product may have exposure to best-in-class fossil fuel companies when the investor’s expectation, based on labelling and marketing material, is it should have no exposure at all.

BetaShares offers products that fall into the categories of ethical investing, impact investing and sustainability-themed investing.

Ethical investing typically involves the application of negative screens to exclude investment in companies whose activities have detrimental impacts on people, society, or the environment, or whose behaviour has been inconsistent with accepted norms. Positive screens may also be used to invest in companies that may, for example, meet ESG criteria such as a low carbon footprint. The term ethical investing is sometimes used interchangeably with the term "socially responsible investing" (SRI).

Impact investing aims to provide financing that makes a positive impact on our society or the environment. It may include investments that aim to reduce poverty or inequality, improve agriculture, or provide better access to affordable housing.

Sustainability-themed investing typically involves investing in products or services that aim to improve environmental sustainability. These investments often have a focus on climate change, but may include broader environmental or sustainability issues as well. Some examples include solar and wind energy, battery technology and electric vehicles, and sustainable food production and agriculture.

Asking the right questions

The investments in some ethical and responsible investment products may not align with an investor’s expectations or values. Investments labelled ‘sustainable’ may have material exposure to fossil fuels for example and others labelled ‘socially responsible’ may have exposure to bonds issued by governments that contravene human rights. It is therefore important for investors to carefully assess the suitability of any product they’re considering investing in.

A good starting point is to ask the following 5 questions:

• Do I understand how securities are chosen for this portfolio?
• Is the methodology consistent with my objectives?
• What companies does the portfolio invest in and what do those companies do?
• Is the investment product certified as sustainable or ethical by an independent organisation?
• Do any metrics back the claims being made about the greenness or sustainability of a product?

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