Sustainable finance as standard


Confusion about the terminology surrounding sustainable finance is an ongoing issue for the finance sector. Mike Hayes, global renewables leader at KPMG, says terms such as green, sustainable, or Environmental, Social, and Governance (ESG), have many different meanings. “There are no clear definitions of these terms, and they mean different things to different people.”

The terms, each with different approaches, are part of an overarching attempt to address one of the great failures of modern economics. That is to capture “externalities,” such as the impact of emissions on the climate in the cost of day-to-day company operations. Largely unchecked for decades, the result has been an over-exploitation of natural resources and a massive release of greenhouses gasses into the atmosphere since the industrial revolution.

Climate risk, the risk associated with the climate change driven by human activities, is now a mainstream concern, leading to a proliferation of net zero targets.

Omid Pakseresht, founder of investment platform Goodfolio, points out that risks to the environment, people, and infrastructure are resulting in companies needing to enact positive change. “Companies are also balancing public opinion and customer demand to ensure that the image and product development in the short and long-run is responding to the macro context in which they operate,” Pakseresht tells pv magazine.

There is certainly pressure on industry and financial institutions alike to be more upfront. The UK is considering mandatory risk disclosures around climate-related risks to an organization’s businesses and strategy. In the US, the Securities and Exchange Commission is exploring the imposition of climate risk reporting. The EU is introducing its update of the Non-financial Reporting Directive via the Corporate Sustainability Reporting Directive (CSRD), which requires all large companies with over 250 employees and at least €40 million ($40.83 million) in turnover, to report on sustainability performance.

The EU’s outsized impact on the trajectory of climate action so far means its approach to sustainable investment will be enlightening. Its strategy sits within the Green Deal framework and is conceptualized as the investment process of taking ESG considerations into account. The aim is to lead to more long-term investments in sustainable projects. The trouble with the definition is within ESG itself.

ESG’s rise

The ESG market has seen remarkable growth, driven by belief that such an investment lens can enable action on environmental and social issues without sacrificing return. A 2021 McKinsey analysis evaluating over 2,000 studies related to the impact of ESG propositions on equity returns overwhelmingly showed that strong ESG propositions create value.

Such analysis has led to increased demand, with investors – from the individual to the institutional – directing increasingly higher proportions of their portfolios towards sustainable products and services. According to financial services firm Morningstar, there were 534 ESG funds at the end of 2021, up from 392 in the year previous.

In terms of the overall investment landscape, ESG related investment is growing rapidly and could soon constitute around one third of projected assets under management. That figure is supported by the latest projects from Bloomberg Intelligence, which suggest that global ESG assets could hit $50 trillion by 2025, up from $35 trillion in 2020.

Lack of clarity

However, there has been a growing backlash about the wide range of methodologies used to quantify ESG ratings, as well as lack of standardisation in the data – in terms of metric selection, measurement, and benchmarking – used to assess performance. Fines have been levied and raids recently carried out on asset managers in relation to exaggeration of ESG integrity. According to Bloomberg, May 2022 saw the first outflow from ESG in over five years.

The real challenge is that over time, ESG has come to be used as a shorthand for companies with a positive impact on the environment, society and stewarded by high-quality governance. The problem with that perception is that it is not what ESG was designed for, which is to identify issues arising from governance, environmental, or social concerns that will be financially material to the operations of a business.

Reality of ESG

MSCI, one of the world’s largest ESG ratings agencies, applies ESG in terms of not what the company does to the world, but what the world does to the company and its shareholders. ESG is an investment lens, not a cure-all for sustainability issues, but appears to have become a catch-all replacement term for sustainable, responsible, or green investment. The question that arises is therefore the meaning of an ESG rating, which is like a credit rating, although nowhere near as robust. There are many different ratings providers which are rarely comparable and mostly use opaque methodologies.

Should investors be looking at issues from the perspective of what is financially material to operations? Or, concerning themselves with double materiality: the idea that the impact of operations on the environment and society are just as important? Part of the concern is the length of investment horizon – ecosystem collapse is only relevant to some investors if it is likely to hit within the lifetime of the investment.


The International Financial Reporting Standards Foundation set up the global accounting standards used in over 120 jurisdictions. Based in the US, it incorporates several different standards into its International Sustainability Standards Board (ISSB) framework, focused on issues that are financially material to operations. Meanwhile in the EU, the European Financial Reporting Advisory Group (EFRAG) is introducing double materiality to the EU Sustainability Disclosure Standards, which will define how companies report to the CSRD. The question of whether materiality, double materiality, or even dynamic materiality – the recognition that issues material to a business are going to change over time – sits at the center of the discussion.

There are those who see both financial materiality and impact as equally important. Goodfolio’s Omid Pakseresht says: “For the green-ESG market, financial risk and impact are now increasingly intertwined. If financial risk, which is both internal and external to companies, is examined without impact, it may miss some fundamental financial risks linked to social, environmental/climate impact.”

The current energy crisis is refocusing state interest on natural gas, and further confusion about what counts as sustainable. The EU recently voted to include natural gas and nuclear into the EU’s Taxonomy for Sustainable Finance as a “transitional” activity, muddying the water for all. At the same time, the solar sector is being asked questions about increased costs and commodity demand, supply chain bottlenecks and more.

Georgios Gkiaouris, SEE regional head of energy at the European Bank for Reconstruction and Development (EBRD) is sanguine about the prospects for solar, telling pv magazine: “While the cost for constructing solar plants has been increasing, the increases are still lower than the increases in the cost of purchasing fossil fuels such as natural gas, or the increases in cost for carbon emission purchases.”

Peter White, chief executive of Rethink Technology Research agrees, saying, “the supply chain is getting tighter due to shortage of polysilicon, glass, and certain metals for solar, but this is mostly artificial, with the US and India using tariffs to keep Chinese solar out of their markets. And it will go away by the end of 2024, as more polysilicon factories come online.”

As the sustainable investment market evolves, however, the question is whether contributing to the energy transition is enough. There are topics like forced-labor in the supply chain, the need to recycle solar panels, and managing commodity demand, to address. Now the question is whether it is time for the solar sector to transform from product led sustainability to one of sustainable operations?

Felicia Jackson

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