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ESG Ratings Are Not What They Seem - YouTube
Channel: Bloomberg Quicktake: Originals
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Capitalism right now is
going through a reckoning.
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There has to be a way in which
profits and planet align.
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ESG in theory should help,
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but that's not what is happening today.
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Our sustainable investments benefit you
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and parts of the world that need it most.
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The whole business is built on the idea
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that you can invest in companies
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that will allow you to
do well as an investor,
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but also can do some good for the world.
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Perhaps the greatest
investment opportunity
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in modern history.
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ESG is now big business.
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It represents by some estimations,
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something like $35 trillion
worth of investments
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and in the last two
years, it's grown by 15%
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and that rate of growth
doesn't seem to be stopping.
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Underneath this entire system are ratings
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that look a lot like the
credit ratings of companies,
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but are based on completely
unregulated data
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and one company
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has come to completely
dominate that business
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and that's MSCI.
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So even though a lot of
people are talking about ESG,
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not many know what goes into
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making an ESG rating for example
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and that rating is what becomes the basis
[86]
for decision-making for investors.
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ESG ratings focuses in on what's significant
[91]
to a company's bottom line.
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What we found is that the foundation
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of this multi-trillion dollar
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new cash machine for Wall Street,
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is not at all what it appears to be
[101]
and that it's really
almost exactly the opposite
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of what people think it is.
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I'm Cam Simpson,
[120]
I'm a Senior Editor and
Reporter for Investigations
[122]
at Businessweek in Bloomberg.
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There are about 160 different
companies that sell data
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and ratings that report to rate companies
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on their environmental, social,
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and governance practices or factors.
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Because it's a completely
unregulated business,
[137]
because it's completely subjective.
[139]
The ratings can land
anywhere across the board.
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MSCI's rating system is built on scores
[146]
and they're converted into ratings
[147]
that look like credit ratings,
[149]
AAA, top of the line, CCC, bottom.
[153]
By mimicking a credit
rating which is regulated,
[156]
which is based on regulated data,
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MSCI has created kind of
an aura of respectability,
[163]
an aura of confidence
for the investing world
[166]
around these ratings.
[168]
I'm Akshat Rathi,
[170]
and I'm a reporter with Bloomberg News.
[172]
I write about all things climate.
[175]
MSCI has been around for
more than two decades
[177]
and it started its life
[179]
as a company that would arrange stocks
[182]
in an electronic index.
[183]
As the company progressed,
it found this demand
[187]
for ESG metrics, that
people were interested in,
[192]
not just ensuring that
they were making profits
[195]
from their portfolios,
[196]
but that the companies
within those portfolios
[199]
were also aligning with society's goals.
[202]
And so about 15 years ago,
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MSCI acquired a number of companies,
[207]
that gave it the ability to
be able to create ESG ratings.
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MSCI has become the giant in the field.
[216]
By one estimate, 40 cents on every dollar
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that is spent on ESG
ratings, is owned by MSCI.
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So, what MSCI does with its ratings
[225]
really matters to the entire industry.
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So if you're a company,
especially a bigger company,
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that's included in the
S&P 500 for example,
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your ESG rating can really significantly
[240]
help you in the world,
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to get included in one of these funds.
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It can lower your cost of
capital, which also can help you
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and so they're really
keen to have good ratings
[250]
and so when a company's rating goes up,
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MSCI produces an updated report
[255]
that shows what the key factors were
[259]
that led to the company moving
up the ESG ratings ladder,
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moving up its score, moving up its rating.
[266]
And so I started just with that,
[269]
with a list of companies and upgrades
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and to see how quickly and how high
[274]
some of them could climb.
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We found half of the companies,
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out of the 155 that we looked at,
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got upgraded just for sitting still,
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because MSCI changed the
way it weighted the score
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or changed the methodology
[289]
and so their scores went up as a result.
[291]
Take McDonald's for example,
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its total emissions are those that match
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the entire country of Portugal or Hungary
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and much of those emissions
come from its use of beef.
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But when MSCI gave it an ESG
rating upgrade in April 2021,
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it did that by reducing
the rating of emissions
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from a mere 5% to nothing
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and instead replacing it
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with a new initiative that
McDonald's had launched
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around recycling.
[325]
Except, that the recycling
initiative came from
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installing bins in select
locations, in the U.K. and France.
[333]
And when we looked at that,
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we found that within U.K. and France,
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there was either an upcoming regulation
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or a threat of a regulation,
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which would have forced
fast food companies
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like McDonald's and others,
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to anyway install these recycling bins
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and so, McDonald's essentially
got a ratings upgrade
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for doing the bare minimum that
it should have done anyway
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and for not being counted
for all the emissions
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it was putting out into the atmosphere.
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And McDonald's is not a singular example,
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it's actually quite typical.
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When we looked at the 150 upgrades,
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nearly half of the companies
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got that upgrade in their ESG rating
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without even fully
disclosing their emissions.
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We found the factors that
were driving upgrades
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over and over again,
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were for things like, what
MSCI calls corporate behavior.
[392]
The other one that also
was kind of surprising
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was data protection and
also the structure of boards,
[398]
deemed to be a factor in potentially
[401]
having better outcomes for shareholders.
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Of the 155 rating upgrades
that we looked at,
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we found only one where a
reduction in carbon emissions,
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was cited as a significant
factor in the upgrade.
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The rating system and
the ratings themselves,
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create exactly the opposite
[421]
of what many investors
believe they're looking at
[424]
when they see a highly-rated company,
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they think that company
has strong environmental,
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social and governance practices,
[431]
in terms of, its impact on the
world, its sustainability.
[434]
But what they're actually
measuring is exactly the opposite,
[437]
is the company sustainable?
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Is the value to shareholders sustainable?
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What's the impact of the world?
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Climate change, water shortages,
potentially on the company,
[449]
it was a hard thing to get our heads around
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until we saw it all together in the data.
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MSCI is the leading provider
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of investment tools in the world
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and as such, in our basic raw material
[461]
our sophisticated models, big
data and advanced technology.
[467]
Henry Fernandez is the
CEO and Chairman of MSCI
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and has been since the
founding of the company
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and we met Henry at COP26
where governments meet,
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but increasingly, businesses
have been playing a role
[482]
in shaping the conversation
around climate change
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and how much they are doing
to help fight climate change.
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We asked him, do you
think ordinary investors,
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retail investors have any idea
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that the entire lens of the system
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is the impact of the world on the company
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and not the impact of
the company on the world?
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And he said, no, that
they didn't have any idea.
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And in fact, he said he thought
even investment managers
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who were putting together
these funds, didn't grasp it.
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You know, they're not really concerned
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about the impact on the world
the investment managers,
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their fiduciaries and their
interest is in their fees.
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He said, he's a libertarian
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and that he would like as
little government intervention
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as possible and wanted to
ensure that the use of ESG
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would be one way in which he
can stop any socialist ideas
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from creeping into capitalism at any cost.
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This is a permanent change
in the way capitalism works
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and by the way, we're doing
this to protect capitalism.
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Otherwise government
intervention is going to come,
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socialist ideas are
going to come and the like.
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So it's not against capitalism, it's about,
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you know, dealing with the externalities
[555]
that are created in capitalism.
[557]
Henry Fernandez was born into
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an incredibly privileged
family in Latin America.
[563]
Henry wound up at Stanford,
where he decided to get an MBA,
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that was really kind of at the height of
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the "greed is good" movement on Wall Street
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and Henry then decided that
he would go into finance.
[577]
He ultimately found
himself at Morgan Stanley
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and Morgan Stanley had a partnership
[581]
with a company called the Capital Group,
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Capital Group International.
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By the start of 2019, it was
clear that this massive shift
[590]
driven significantly by millennials
and their pension funds,
[595]
was really going to take hold
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and that created demand
for investment managers
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all over the world to sell
investments to the public,
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that purported to make
the world a better place.
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So Henry Fernandez took his bland
[613]
kind of back office Wall Street company
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and he rebranded it and he's
done pretty well from it since.
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Your company has had an amazing run
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since it was spun off from Morgan Stanley.
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What'd you say up 10 times since 2009?
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We went public at $18
a share 12 years ago,
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and it's $220 today.
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Henry appears to be the first
ESG investing billionaire.
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His shares are now worth
about $1.3 billion,
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which makes him almost
as wealthy as Tim Cook,
[644]
the CEO of Apple.
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Companies have a hard time,
[647]
often time getting their founders,
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getting their directors,
getting their executives
[650]
to invest in their businesses.
[652]
Henry has his whole net
worth in his business
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and basically his board
actually said to him,
[657]
"We'd like you to sell a
little bit of stock Henry."
[659]
And Henry said, "I'm not gonna sell stock.
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I think I'm going to make
three or four times that money
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in the next 10 years. Why
should I sell any stock?"
[666]
ESG ratings have come under
the scanner in recent years
[670]
and so in this Wild West of ESG ratings,
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regulators now are honing
in, on figuring out a way
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in which they can standardize
how ESG ratings are made
[681]
and make sure that ESG ratings
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don't end up green washing
a company's activities.
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The Securities and Exchange Commission
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has come up with a regulatory agenda
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to bring in more regulation,
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as far as ESG disclosures are concerned.
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It will be critical I think
in the next several months
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to see what the Securities
and Exchange Commission does
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and whether or not
they're going to crack down
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on some of the claims
that are really critical
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to bolstering ESG investing versus
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what ESG investing really is.
[713]
Society hasn't changed.
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You know, you would have been intolerant
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of our transgression a hundred years ago,
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except that you didn't know
it, it was not prevalent.
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Now today you can find out very quickly
[724]
if somebody is doing something wrong
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and therefore societies
tolerance towards that
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is very limited.
[730]
There's no question
that shareholder action
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can move companies, can move companies
away from things that are,
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you know, really driving climate change
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or other ills in the world,
[744]
but those moments are incredibly rare
[747]
and the idea that these funds,
investing in these funds
[750]
is doing anything to
make the world better,
[752]
it's really, really hard
to see how that's the case
[757]
and there is a huge demand from people,
[759]
especially young people around the world,
[761]
to not have their pensions
and their investments
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destroy the planet that they live on.
[766]
Whether it will be met
with anything that's real
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is a really hard to answer question.
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