A complacent ESG industry which has run into major obstacles needs to broaden its appeal and re-invent investment strategies in order to keep moving forwards.

As critics of environmentally friendly finance increasingly link sustainability with a ‘woke’ agenda in both the US and Europe, industry voices are asking whether environmental, social and governance (ESG) investing has met its ‘Oppenheimer moment’.

Has the ubiquitous, all-pervasive promotion of ethical investments  – expected to account for $33.9tn in assets under management by 2026 – finally led to the demise of the bright green future, which this once unstoppable multi-decade megatrend promised to provide?

Industry practitioners are in little doubt that this highly polarising investment philosophy is living through a mid-life crisis, if not an existential threat. There is at least a temporary impasse in this once friendly sphere. The problem is that afficionados and opponents are now identifying with liberal ideas and more evangelical, right-wing politics respectively.

Even leading private bankers are associating ESG-sceptics with the typical ‘Trumper’ stereotype of “red-faced, neck bulging, outraged” investors, rather than thoughtful, society-conscious family offices. PGIM, one of the larger US asset managers, talks of “a little bit of malaise in the ESG space during 2023”, with more than a hint of understatement. BlackRock boss Stanley Fink has instructed his firm to no longer use the term in official communications. Consultants warn the backlash forms “part of a wider pushback against woke capitalism”, fired by US Republicans so opposed to ESG that the issue has become a long-term one, which cannot be easily diffused.

Stimulating ESG debate

But the good thing is that polarised stereotypes doing the rounds of message boards and social media channels are actually stimulating debate around these topics. Private banks are acknowledging that the sceptics they thought would be redneck climate change deniers are often far more ecologically conscious clients and families, thinking more deeply about the true meaning of sustainable investments.

Family offices say the divide between blue and red states – in the latter Republican-controlled territories, money managers adhering to ESG principles are often sidelined from managing public pension funds – is making it difficult to pick a meaningful path, in case they are incorrectly stigmatised.

This can hold back progressive elements in the industry, which Charlotte Thorne, partner at the Capital Generation Partners multi-family office, says has earned a deserved reputation for jumping on every bandwagon in order to earn fees. It seems economically motivated asset and wealth managers cannot be relied on to serve clients’ best interest in ESG. The onus today must come from the clients.

Prescriptions, sanctions and fines

There is no correct prescription for success, here. Rather than instructing clients about which strategies are the best ESG-linked approaches – which has led to substantial fines and other sanctions in Europe – investment houses must begin to embrace a broader range of solutions.

During 2023, sustainable investing proved more challenging that previously, mainly due to higher cost of capital in the public equities space. According to Sienna Investment Managers, a family-owned European investment house operating out of Paris and Luxembourg, sustainable thematics such as renewable energy were hit particularly hard.

Even true believers had to be more pragmatic and shy away from blanket sector exclusions, once popular when Californian pension schemes pioneered this investment approach during the late 1990s.

Flexibility involved extending ESG to private assets. This helped satisfy three key demands of investors. Firstly, including strategies focused on finance of wind, solar, hydro and biogas infrastructure, is proving key to help drive decarbonisation of the economy. Secondly, the political goal of securing energy independence has become much more of a priority, after European countries began rebuilding supply chains after Russia’s invasion of neighbouring Ukraine in February 2022. Thirdly, say Sienna’s strategists, these alternative investments can provide solid investment returns, helping further boost relationships with clients.

Chronic underperformance

This increasingly pragmatic approach – veering away from a blind faith in ESG ratings and standards – is becoming more of a necessity as clients review performance of sustainable portfolios for the last two decades. Didier Duret, head of the investment committee at Omega Wealth Management, which oversees funds from several wealthy families, talks about “chronic underperformance”, mania and disappointment, associated with the latest ESG wave. Clients seeking good causes in which to invest have often been subjected to much higher fees, without gaining preferential access to innovative parts of the market, where the real transformation is taking place.

For these clients, taking more responsibility for the way assets are invested is becoming a key measure of success. The tailing off of ESG strategies in recent months – says consultant Cath Dovey – suggests investors want to locate impact-led investment opportunities, which they currently have minimal access to.

Indeed, suggest bankers, a pullback from these opportunities is actually a healthy interval. It means clients will ask more questions and not necessarily follow ESG-branded products because of their shiny labels, which often mislead investors who are still learning the ropes in an immature industry.

This more flexible approach will serve the industry well, by preventing wealth managers from being pigeon-holed. Coutts, the UK private bank, was accused of being a hub of woke capitalism by Nigel Farage, when it dispensed with his custom, concerned about how being connected with a right-wing politician might damage the bank’s brand.

But in reality, the bank – which tried to reposition itself as a modern firm appealing to a new generation of British creatives, typified by rapper Stormzy – continues to also act as a traditional shop serving the old-school elite, including the number one trophy client of the Royal Family. This enables key connections, as well as entrance to hot ticket events such as Buckingham Palace garden parties.

Similarly Northern Trust, despite its liberal and proactive attitude to serving minorities, including LGBT+ clients, plus adopting ESG policies and investment goals, is much more than a specialist player serving big city, left-wing cohorts. In reality, these banks serve many types of families and individuals.

In order to be profitable, banks must cater to all segments and needs, using technology and AI to shape investment strategies for a variety of tiers, sensitivities, genders and interests, following the inclusiveness and empowerment promoted by another major hit film of 2023. Rather than lamenting that ESG is approaching an ‘Oppenheimer moment’, perhaps the complacent industry needs to embrace a ‘Barbie moment’, seizing new opportunities as well as challenges.

Yuri Bender is editor-in-chief of PWM