It’s clear to see that the world is in absolute chaos, a mix of an upcoming financial crisis along with political and social instability. Technological innovations and the rise of artificial intelligence and machine learning are also causing concern for specialized workers in industries like transportation and others.
Moreover, climate crisis awareness has been rising, leading to further uncertainty and panic among the general populous. These factors create what can be seen as a “perfect storm”. A catalyst for a highly volatile and unpredictable market, which can lead to additional losses for the common investor (retail investors).
Introduction to Environment, Social and Governance (ESG) data
Environment, Social and Governance (ESG) data is compiled through a set of standards that measure how socially conscious a company’s operations are, based on a predetermined set of criteria (ESG criteria).
The aforementioned data is often used by investors and analysts to screen potential investment opportunities, allowing them to exclude a specific company stock or even entire industries from their portfolios. A practical example of this is the use of ESG data by investors to exclude business activities such as tobacco production or involvement in the South African apartheid regime.
COVID-19: The current landscape
It’s impossible to consider any form of investment without considering the proverbial “elephant in the room”. The COVID-19 pandemic has shaken up the world on all levels and has led to an unparalleled realization of the positive impact the economic shutdown caused by the pandemic has had on our environment, following a global economic shutdown and general lockdowns.
In this year’s BlackRock annual letter, the CEO Larry Fink stated: “ I believe that the pandemic has presented such an existential crisis – such a stark reminder of our fragility – that it has driven us to confront the global threat of climate change more forcefully and to consider how, like the pandemic, it will alter our lives.”
Stark words that should not be taken lightly, even more so when considering that Larry Fink represents the company that created the famous “ iShares”products , the exchange traded funds (ETFs) that tracks several Morgan Stanley Capital International (MSCI) funds, with regards to the best alternatives for energy or social inclusion-based investing.
While there has been a massive growth when it comes to global awareness towards these factors in the past year, ESG still faces multiple challenges such as the extraction and filtering of the high quality data given the high number of parameters that are associated with these datasets.
ESG Data: The problem
As so, there is an observable gap between financial analysts and ESG service providers. While the former know the companies and industry well, they have a very limited understanding of ESG. On the other hand, the ESG service providers often ignore the factors valued by these analysts.
The fragmentation between these two elements (the financial analysts and ESG service providers) means that financial analysts often ignore what could be an essential tool, seeing it as a “useless novelty” with no real-world value. This could not be further from the truth.
The aforementioned problem is further intensified by the readily available information provided by traditional financial performance resources stretching from the institutional Bloomberg Terminal users to the retail Yahoo Finance retail readers, where ESG data is neglected.
Another issue regularly experienced is that of opportuneness, or the thought of brief-and long-term timelines on the information that’s both being unveiled and being acclimatized by investors.This level of refocusing may require a more top-down approach to economical contributing and acknowledgment of the control of capital to implement alter, something that will require long-term work to attain.
ARK innovation- The solution
As so, there should be standardization of the data processing and a unique global model to obtain the ESG performance in order to optimize the information and make it clear as a financial performance indicator, a “user-oriented” approach to assess the information would be an ideal step towards this goal.
For instance, where everybody talks about inflation and the horrible consequences about it, Cathie Wood (ark CEO ) speaks on a webinar about deflation due to the cost of manufacturing dropping thanks to technical innovation.
When everybody it´s not really focusing or puts gender and race equality in the backstage, Cathie was thinking about it as a priority since 2016 in all the active portfolio choices.
In this framework, one could characterize ESG information in terms of its width and profundity. A quantitative data-matrix that compiles indicators such as : unwavering quality, granularity, freshness, comprehensiveness, actionability, and shortage) of the data in order to obtain a straightforward evaluation to facilitate the evaluation of the companies and make ESG standards accessible for everyone.
Regarding the ARK example described above, their research is recognized worldwide as one of the best, if not the best, when it comes to innovation and social investing so I´d propose that the ESG strandarized model would be launched by them using an “ARKs point“ system similar to the letter grading system that we currently use.
MSCI Rating, 4 pertinent examples:
MSCI is one of the leading investment research firms in the financial world. It provides leading data for ESG rating and benchmark. Their scoring model includes 2800 publicly traded companies and their rating is based on indicators such as climate change, pollution, human capital to corporate governance and transparency. MSCI scoring uses a rule-based methodology to identify industry leaders and laggards according to their exposure to ESG risks and how well they manage said risks when compared to their peers. Seen below, a review of MSCI ESG ratings shows that there are failures in the current data processing models for ESG data: THE GOLDMAN SACHS GROUP, INC.: BBB The leading global investment banking, is rated average which seems incorrect due to the recent scandals involving the inhuman treatment of the intern exploitation, creating a culture sleep depriving and overtime work. Regarding the responsible investment category, the company seems to achieve a leader grade but considering all the misconduct with their clients in the past and the recent Archego´s margin call selloff, doesn’t seem as a top grade client-driven company. In conclusion, there should be a downgrade to BB or B at least. EXXON MOBIL CORPORATION: BBB There is a clear case of over/rating when it comes to this giant Oil refinery company. Since the beginning of the pandemic, Exxon has been struggling financially with some hard problems like the fast paced cash burn, dividend sustainability or earnings missing for the first time but there was no prior effort to invest more into renewable energies. Exxon’s peers have invested or pledged to invest billions of dollars in renewable energy plants, but Exxon’s strategy has been to reduce greenhouse gas emissions while continuing to focus on its core business strategy which is centered around fossil fuel .This being said, one could consider a downgrade to C regarding the core business and also the lack of community relations. PLUG POWER INC. : BBB The hydrogen fuel cell provider is lacking an upgrade in my opinion as their clean energy not only has been helping not only the industrial factory power for years but also following the Biden clean energy plan helping sectors such as Electric vehicles as hydrogen fuel cell powering of forklifts legitimately improves upon the old battery powered technology by substantially reducing downtime. On the other hand, recently there was a big scandal or alleged misconduct on financial reporting that misrepresented earnings and revenue. All things considered, I think the company still could reach a Leader status with an A rating. PALANTIR TECHNOLOGIES INC.: CCC This score is outrageous to say the least.It’s the worst rating score available which leaves Palantir in the laggard category. Arguably this rate may come due to the fact that the company has strong military contracts but their contribution to technological data advancements has always been considered “ahead of their time”. The company is heavily driven by ethical and social value and helps the society on many different levels. Recently, during the Covid19 pandemic, Palantir Technologies helped report critical data to public health agencies in a secure and standardized form and also this applied to all crime fights with the police stations worldwide. [1] [2] They also have a scholarship and embrace all kinds of new engineers. Regarding these social advantages I´d just leave the carbon emission at a laggard rate as their technology has been contributing to pollution for instance but in general I´d upgrade it to a BB or B level.Carlos Prada is a full time trader and a post graduate student in finantial markets & risk management in Nova School of Business & Economics. He is the founder of 021 Agency – a digital strategy and events company and has a bachelors degree in arquitecture