ESG investing

Another Anti-Woke Charade

For the vast majority of the U.S. population not involved in shareholder activism, Institutional Shareholder Services Inc. and Glass Lewis & Co. are far from household names. Yet these two firms dominate the business of providing advice to pension funds, asset managers, and other institutional investors on how to vote on issues that come up for a vote at corporate annual meetings.

These proxy advisors increasingly find themselves being targeted by those on the right who want to obliterate anything that they see as promoting progressivism. The latest attack comes from MAGA-loving Texas Attorney General Ken Paxton, who just announced his office has launched an investigation of the two firms for “potentially misleading institutional investors and public companies by issuing voting recommendations that advance radical political agendas rather than sound financial principles.”

Whatever restraint Paxton exhibited with the use of the term “potentially” in the first paragraph of his press release disappears by the third paragraph, which quotes the AG as saying: “My office has zero tolerance for these woke corporations smuggling radical, liberal ideology into the companies they advise and into the entirety of America’s financial system.”

Paxton’s witch hunt is just the latest phase of a long-running campaign against shareholder activism that has increasingly zeroed in on the proxy firms. In 2020, during Trump’s first term, the SEC moved to define proxy voting advice as solicitation and thereby impose onerous regulations on the activity.

That policy was rolled back during the Biden Administration, but business groups such as the National Association of Manufacturers sued to restore the restrictions. In July of this year, a federal appeals court ruled against the business groups, finding that the advisory firms are not engaged in solicitation.

Opponents of ISS and Glass Lewis have also tried to hamstring the firms through legislation. Earlier this year, the Texas legislature enacted SB 2337, a law that would have effectively required proxy advisors to tell investors that any voting recommendations based in whole or in part on environmental, social or governance (ESG) considerations were not in their financial interest. The firms sued, arguing that the law violated their First Amendment and due process rights. A federal judge in Texas recently issued a preliminary injunction blocking enforcement of the law while the matter proceeds to trial.

Paxton, who survived a 2023 impeachment trial and is now running for the U.S. Senate, has every reason to paint himself as a crusader against supposed DEI and woke ideology. In doing so, he is one of numerous Republican elected officials who are waging war against the free speech rights of anyone who does not toe the MAGA line.

Yet it is odd that figures such as Paxton seem to be obsessed with the proxy advisors, which do not seem to have much influence over corporate policies these days. Most large companies have retreated from DEI and ESG practices, many of which were not that meaningful in the first place. And it is worth noting that shareholder resolutions are in most cases not binding. If activists overcome the high hurdles in winning a vote, the company is free to ignore the result.

Given this reality and the fact that ISS and Glass Lewis are a lot less radical that Paxton would have us believe, the battle over proxy advice seems to be little more than another MAGA anti-woke charade.

Watching the ESG Watchmen

Investment advisors that adopt the label ESG present themselves as arbiters of corporate behavior. They claim to identify which companies are serious about environmental, social and governance goals and thus deserve to be included in high-minded portfolios.

But who watches the watchmen? Who determines when the ESG gatekeepers have gone astray? The answer turns out not to be Ron DeSantis and Republican Attorneys General who have been attacking what they see as wokeness in the business world. Instead, it is the traditional cop on the financial beat—the Securities and Exchange Commission.

The SEC recently brought charges against a subsidiary of Deutsche Bank for misleading investors by exaggerating the extent to which it actually applied ESG principles in its stock recommendations. DWS Investment Management Americas Inc. (DWS), according to the SEC, “failed to adequately implement certain provisions of its global ESG integration policy” and “failed to adopt and implement policies and procedures reasonably designed to ensure that its public statements about the ESG integrated products were accurate.”

DWS, which agreed to settle the charges by paying $25 million in penalties, was also accused of failing to develop an adequate program to make sure its mutual funds were not being used for money laundering. The accusations against DWS essentially came down to deception and negligence.

It is, of course, ironic that a firm whose mission is to monitor the behavior of other companies was found to have serious deficiencies in its own conduct. Yet the real lesson of the DWS case is that the E in ESG does not stand for “ethical.”

This becomes abundantly clear when we look at the track record of many ESG investment advisors as well as the companies that score well in ESG ratings. DWS stands out in this regard. Its parent Deutsche Bank is the ninth most heavily penalized parent company in Violation Tracker with nearly $20 billion in fines and settlements in the United States since 2000.

The bank has, for example, paid out enormous sums in multiple cases involving offenses such as manipulation of interest rate benchmarks, facilitation of fraudulent tax shelters, deception of investors in the sale of what turned out to be toxic securities, and violation of anti-money-laundering laws. The latter included a $425 million settlement with the New York Department of Financial Services of allegations its Moscow, London and New York offices participated in a mirror trading scheme that laundered $10 billion out of Russia.

Despite this record, Deutsche Bank scores pretty high in some ESG rankings. The same combination of heavy regulatory penalties and high ratings can be seen with other investment firms such as Goldman Sachs and Morgan Stanley as well as companies in many other industries. Even fossil fuel culprits such as Chevron and Occidental Petroleum get relatively high ESG scores.

All this is further evidence that the real problem with much of the ESG movement is not that it goes too far, but rather that it is often used as a smokescreen to hide all manner of corporate misconduct by those claiming to promote virtue.

Is ESG Worth Defending?

The varied environmental, social and governance efforts that go under the name ESG are facing increasing attacks from the Right. Attorneys general in red states have sought to prevent public pension funds from doing business with investment managers promoting sustainability. Public officials such as Florida Gov. Ron DeSantis bash what they call woke corporations to score cheap political points. Groups that successfully dismantled affirmative action in higher education are now targeting diversity programs in the business world.

In the face of this opposition, some large corporations are backing away from ESG-type initiatives or at least are keeping quieter about them. References to ESG are reported to be disappearing from the earnings calls companies have with analysts and investors. Some companies are exiting from alliances created to accelerate the movement toward net-zero greenhouse gas emissions.

The ease with which conservative ideologues have brought about this retreat is a sign of the shortcomings of ESG. Although companies have presented these as high-minded initiatives, they are often little more than public relations ploys.

Much of ESG originated in greenwashing—the attempt by large companies facing pressure over their environmental impact to give the impression they were changing their ways. Eventually, some large companies went from placating critics to presenting themselves as the vanguard in bringing about change. For example, in the 2000s oil giant Chevron launched an advertising campaign with the tagline Will You Join Us urging the public to emulate its supposed green behavior.

Companies followed the same pattern on other issues, depicting themselves as proponents of reform after being pressured by progressive shareholder activist groups such as the Interfaith Center on Corporate Responsibility and As You Sow.

Along with being an attempt to undercut activism, ESG amounted to an effort to weaken government regulation. Proponents did this by promoting voluntary initiatives in lieu of legal mandates. Companies could decide which environmental and social goals to pursue and how to do so. They could also decide how to measure success.

Although there were later efforts to standardize practices and metrics, ESG remained largely under the control of corporations seeking to use it to paint themselves in the best possible light.

Seeing ESG under attack presents a dilemma for those of us who have long pressured corporations to change their behavior. We have no sympathy for those rightwing ideologues who are targeting ESG as part of an agenda that includes preservation of the fossil fuel industry and reversing progress in racial equity. Yet it is difficult to rush to the defense of what was often little more than corporate p.r.

The challenge is to separate the valid issues ESG purports to promote—sustainability, racial justice, fair labor practices, consumer protection, etc.—from the self-interested companies and investment managers pursuing their own agenda.

One way to start is to replace the term ESG with corporate accountability. This reinforces the idea that big business is the problem, not the solution with regard to many of the challenges facing the world today.

Another step is to change the way we assess corporate behavior. Evaluations of companies should be based on independently verifiable data rather than self-reporting and on compliance with government regulation rather than voluntary initiatives. When judged by these metrics, as the data in Violation Tracker make clear, most large corporations can hardly be considered paragons of social responsibility. Some are close to being criminal enterprises.

But most important is to remember that those working from outside the executive suite—environmental groups, labor unions, public interest advocates, corporate accountability activists—are the real agents of change in the business world.

Whether or not ESG survives the rightwing assault, the movement to bring about true corporate accountability will continue.

Woke Capitalism or Sleepy Oversight?

Some of the same people who are trying to convince us that January 6 was a peaceful sightseeing outing and that the situation in Ukraine is a minor territorial dispute have come up with a remarkable explanation for the collapse of Silicon Valley Bank. They claim it is the result of what they call “woke capitalism.”

Politicians such as Florida Gov. Ron DeSantis and House Oversight Chair James Comer are echoing claims by propagandist Tucker Carlson that SVB’s collapse was the result of its involvement with ESG—environmental, social and governance policies meant to promote objectives such as sustainability and diversity.

There are two problems with this claim. The first is that SVB was hardly a leader in the ESG world. The bank’s preoccupation was apparently to ingratiate itself with venture capitalists, private equity investors and start-up entrepreneurs, whether or not they were pursuing social goals. It was also chummy with California wineries. SVB wanted to be a power in Silicon Valley, not a crusader. Like most banks, it made some ESG-type investments, but they were a small part of its portfolio.

The other problem is that there is no connection between ESG practices and the forces that led to SVB’s demise. Based on what has come to light so far, it appears what happened at the bank was largely a result of poor risk management. SVB failed to pay adequate attention to the consequences of having loaded up on long-term government debt securities that were rapidly losing value at a time of escalating interest rates.

Along with that poor internal risk management, there was apparently a failure of regulatory oversight. To some extent, this was the fault of the Trump Administration and Congress, which in 2018 watered down the Dodd-Frank Act and exempted banks of SVB’s size from intensive scrutiny.

As pointed out by the New York Times, Moody’s was more alert to the perils at SVB than the regulators or the bank’s own executives. Last week the credit rating agency contacted the bank’s CEO Greg Becker to warn him that SVB’s bonds were in danger of being downgraded to junk status.

This set off a scramble by SVB to raise more capital. Once depositors got wind of this, they began emptying their accounts, many of which had balances above the $250,000 limit normally insured by the FDIC. Soon there was a full-blown run on the bank, prompting regulators to take over SVB and shut it down. The Biden Administration then bailed out the depositors in whole, using assessments from other banks. ESG has nothing to do with any of this.

As this is being written, the business news is focusing on problems at Credit Suisse. It will be interesting to see if the U.S. Right tries to apply the woke label to that situation as well. Although it gives lip service to ESG, Credit Suisse has a track record of less than enlightened practices. Two decades ago, it was being sued over its investments in apartheid-era South Africa. It has a history of lending to oil and gas projects and has been slow to respond to demands to reduce that exposure.

As shown in Violation Tracker, Credit Suisse’s record in the U.S. includes numerous cases in which it paid penalties to resolve allegations relating to the facilitation of tax evasion, foreign bribery and other misconduct. Its U.S. penalty total is over $11 billion.

Come to think of it, the Right will probably decide that a bank with a history of making money from racism, fossil fuels, tax evasion and bribery is worthy of support.

The woke capitalism critique cannot be taken seriously as an explanation of what happened at SVB. Yet there is the danger that it will serve to divert attention for some away from the real problems: reckless bank management and sleepy financial regulation.

Two-Faced Corporations

The new issue of Corporate Knights, a magazine which usually focuses on celebrating environmental initiatives in the business word, has a cover story with a different angle. Headlined “The Climate Blockers,” the piece highlights major companies with split personalities: They talk a good game when it comes to matters such as sustainability while directly and indirectly promoting policies that impede decarbonization.

Among the corporations deemed to be most guilty of this hypocrisy are U.S. petroleum giants Chevron, ExxonMobil and ConocoPhillips and U.S. utilities Sempra Energy, American Electric and Southern Company. Others on the ten-worst list are BASF, Nippon Steel, Gazprom and Toyota.

This assessment is based on the work of InfluenceMap, a UK-based non-profit which seeks to hold large corporations accountable for their climate practices. Its Climate Policy Footprint report identifies the “most negative and influential” companies globally, based on lobbying and other influence activities—whether carried out by the corporation itself or by its trade associations.

InfluenceMap also identifies the trade associations with the worst track record on climate policy. The biggest culprits are said to be the American Petroleum Institute, American Fuel & Petrochemical Manufacturers, the U.S. Chamber of Commerce, and BusinessEurope.

Some of the companies on the ten-worst list are not only members of these associations but also part of their leadership. Chevron CEO Mike Wirth is also the chairman of the American Petroleum Institute. Chevron and ExxonMobil have representatives on the board of American Fuel & Petrochemical Manufacturers. Chevron, ConocoPhillips and Sempra have representatives on the board of the U.S. Chamber.

InfluenceMap provides a vital service at a time when growing numbers of large companies are professing adherence to ESG principles—especially the environmental component—while quietly working to discourage legislators and policymakers from moving ahead on aggressive climate initiatives.

Strangely, it is also a time when rightwing public officials in the U.S. are trying to gin up public opposition to what are being labeled “woke corporations.” This effort exaggerates the significance of ESG in the business world and ignores the divergence between sustainability p.r. and regressive influence efforts.

There are actually two types of environmental hypocrisy rampant in Corporate America. Not only are purportedly enlightened companies pushing bad policies—they are failing to comply with existing environmental safeguards. This includes not only climate practices, which are not heavily regulated, but also conventional pollution.

This is part of what we document in Violation Tracker. Take, for example, the companies in the InfluenceMap ten-worst. Over the past two decades, Chevron has racked up over $1 billion in fines and settlements. These include a fine of more than $1 million in red Texas last year. ExxonMobil’s total since 2000 is more than $2 billion, including a $9.5 million settlement last year with New Jersey over PCB contamination. They are surpassed by American Electric Power, whose penalty total is nearly $5 billion.

No company that repeatedly breaks environmental laws—nor any company that uses its influence to block or slow down climate-friendly initiatives—should be able to depict itself as an environmental white knight.

The Muddled Attack on ESG

Ever on the lookout for threats to the American way of life, the Right has begun pointing its finger at a surprising set of adversaries: BlackRock, Vanguard Group, State Street Corporation and other leading asset managers.

According to a chorus that includes former Vice President Mike Pence and Florida Governor Ron DeSantis, the three firms are part of a “woke Left” that is seeking to impose a radical environmental, social and governance agenda on big business. The allegations are part of an effort to make ESG into a bogeyman for investors similar to the way critical race theory, or CRT, has been used to scare parents of school-age children.

To some extent, the attack on ESG is simply another way to attack Democrats. One of its proponents, Vivek Ramaswamy, published an op-ed in the Wall Street Journal, the favorite soapbox of the movement, headlined “Biden’s ESG Tax on Your Retirement Fund.” The target of the piece was a proposal by the Labor Department to allow pension funds to consider climate-change-related financial risks in making investment decisions.

Ramaswamy has a vested interest in the anti-ESG effort. He wrote a book titled Woke Inc. that is regarded as the bible of the campaign, and he created an investment management firm called Strive to cash in on the backlash to ethical investing. Strive has a fund called DRLL that enthusiastically invests in fossil fuel companies and urges firms of all kinds to resist ESG pressures.

The problem for the rightwingers is that their issue is far from new. There has been a debate going on for decades over the proper role of large corporations when it comes to environmental and social issues. Ramaswamy and his ilk are parroting the arguments made half a century ago by economist Milton Friedman, one of the leading proponents of free market fundamentalism. His 1970 article entitled “The Social Responsibility of Business is to Increase its Profits” is the most famous expression of the idea that corporations should concern themselves with nothing other than making money for their shareholders.

That notion has remained popular in some circles, but most of big business has come to realize that it is simply not practical. Some companies such as Patagonia have made environmental and social engagement part of their brand. Some such as Exxon Mobil resisted change for many years but eventually began to make concessions. And some such as Koch Industries are engaged, but with a rightwing slant.

Modern-day ESG is largely a response by large companies to various external pressures, especially those coming from environmental groups and other corporate accountability activists. These days they also need to deal with the fact that many consumers are unwilling to do business with firms seen as contributing to the destruction of the planet.

Far from being radical, ESG often serves as a form of greenwashing, allowing companies to give the impression they are taking bold steps when their actions are actually quite limited. Much of the purported progress toward ESG goals is based on company self-reporting with limited verification.

The anti-ESG crowd is particularly upset at the role asset managers are playing in encouraging companies to set goals for net-zero greenhouse gas emissions. Yet many companies are planning to meet those goals through the purchase of dubious carbon offsets rather than major changes in their own operations.

When ESG initiatives lead to real changes in corporate practices, that is usually a reflection of changes in market dynamics. Companies such as General Motors are not putting more emphasis on electric vehicles as part of some secret leftist agenda, but rather because that is what its customers are demanding.

Oddly, the rightwing critics seem to pay little attention to the fact that several major ESG investment managers, including Goldman Sachs, are reported to be under investigation by the SEC, which is also seeking to adopt tighter rules on which firms can use the ESG label. Inquiries into whether ESG investment advisers engage in deceptive practices are also underway in Germany, where the offices of Deutsche Bank’s ESG arm were raided by investigators earlier this year.

Instead, the Right’s anti-ESG crusaders are promoting the moves by red-state attorneys general to do their own investigations, focusing on the influence of giants such as BlackRock. Those investigations, however, start out with exaggerated assumptions about the power of ESG, while the SEC seems to be concerned that those impacts are actually less significant than the advisors are leading investors to believe.

In an editorial celebrating the anti-ESG backlash, the Wall Street Journal warned that the changes being promoted by BlackRock could lead to new regulations. This betrays a fundamental misunderstanding of ESG. One of its primary aims is to use voluntary corporate initiatives to make the case that government mandates are unnecessary.

Although they go about it in very different ways, ESG proponents and rightwing critics are both seeking to limit the role of government in overseeing corporate behavior. That is where both groups fall short.

Whether large corporations are claiming to save the world or are simply maximizing profits, they cannot be left to their own devices. The same goes for the big investment managers.

Take the example of State Street Corporation, one of the big firms the Right is trying to make into a major ESG villain. Last year, State Street paid a $115 million criminal penalty to resolve federal charges that it engaged in a scheme to defraud a number of the bank’s clients by secretly overcharging for expenses related to the bank’s custody of client assets.

The problem with State Street and many other large companies is not that they are too focused on promoting virtue but rather that they may be lacking in virtue themselves.

Note: My colleagues and I are seeking a research analyst to work on Violation Tracker. Details are here.

ESG Besieged

Things have been rough lately for those high-minded asset management services promoting ESG investment practices. The Right is dragging ethical investment into its culture war, accusing the ESG world of promoting “woke capitalism.” In a recent op-ed in the Wall Street Journal, former Vice President Mike Pence went so far as to state that “the next Republican president and GOP Congress should work to end the use of ESG principles nationwide.”

Unfortunately, the ESG world has left itself vulnerable to such attacks. Its criteria for deciding which corporations deserve a seal of approval are often less than rigorous and may be based on unverified data produced by the companies themselves.

The problems of ESG have reached the point that the Securities and Exchange Commission recently proposed rules that would impose stricter disclosure standards on ethical investment funds and require them to meet somewhat stricter criteria in order to use ESG or related terms in the name of the fund.

Yet perhaps the biggest embarrassment for the ESG world just occurred in Germany, where dozens of agents from the Frankfurt public prosecutor’s office and the financial regulatory agency BaFin raided the offices of Deutsche Bank and its asset management subsidiary DWS. In the wake of that action, the chief executive of DWS resigned.

The investigators were reported to be seeking evidence that DWS defrauded clients by exaggerating the extent to which its green investment products were actually based on sustainable practices. In other words, the Deutsche Bank subsidiary appears to be under criminal investigation for engaging in greenwashing. The case is said to be related to a probe that the SEC has reportedly been conducting of the matter—though without any dramatic raids.

Without pre-judging the outcome of the investigation, I find it difficult to believe that DWS is innocent. After all, it is part of a corporation with a long history of engaging in misconduct. As shown in Violation Tracker, it has racked up more than $18 billion in fines and settlements for cases involving the sale of toxic securities, manipulation of interest rate benchmarks, promotion of fraudulent tax shelters, violations of anti-money-laundering laws, foreign bribery, and more. This is all on top of Deutsche Bank’s questionable business dealings with Donald Trump and Jeffrey Epstein.

I’ve always found it odd that a bank with a reputation such as this could put itself forth as a practitioner of ethical investing. Yet that is a big part of the problem with ESG. Rap sheets such as that of Deutsche Bank are often ignored, and companies are deemed worthy based on some specific practice that is far from representative of its overall behavior.

The Deutsche Bank case is not the only example of an ESG investment adviser being held to account. Recently, the SEC charged BNY Mellon Investment Adviser for misstatements and omissions concerning the ESG criteria used in some of its mutual funds. The company agreed to pay $1.5 million to resolve the matter.

Cases such as these signal that the ethical investing world is going to have to get a lot more ethical—and rigorous—if it is going to survive.

The Dubious Rehabilitation of the Arms Industry

War always creates business opportunities, and the brutal Russian invasion of Ukraine is no different. Some of those opportunities are direct: producers of military hardware stand to benefit from increased orders from the Pentagon to replenish stockpiles of weapons being shipped to help the Kyiv government survive. Some are indirect: petroleum companies are profiting from the rise in world oil prices brought on by the war.

We are now seeing another kind of boon: corporations previously regarded as pariahs are now being viewed by some in a new light. Chief among these are the weapons producers. In addition to the new orders, these corporations are enjoying the fact that some investment advisors and analysts who previously shunned their shares are now arguing for their rehabilitation.

After the war began, two analysts at Citigroup led the way with the claim that “defending the values of liberal democracies and creating a deterrent” meant that weapons makers should be included in funds with the ESG—environmental, social and governance—label. Sweden’s Skandinaviska Enskilda Banken is allowing some of its funds to buy shares of military companies, reversing a position it adopted just a year ago.

Many ESG advocates are pushing back on this effort, but the fact that it is happening is an indication of the inconsistency in the motivations for ethical investing. Some ESG investors simply want to dissociate themselves from companies they find objectionable. Others hope that companies denied ESG approval will feel pressured to change their practices. A third category believe that firms such as fossil fuel producers are susceptible to legal risks that will undermine the value of their shares. And yet others may hope that disinvesting in odious companies will ultimately put them out of business.

These different categories are further complicated by the distinction between companies that are shunned because of their own practices and those which are part of an industry that is problematic.

One thing made clear by the war in Ukraine is that big military contractors are not headed for oblivion, as some hoped after the end of the Cold War. That applies not only to producers of conventional weapons that are now in great demand. Russia’s claims that it just tested a new intercontinental ballistic missile could spark a new nuclear arms race.

All this is not to say that we should be pinning a halo on the likes of Northrop Grumman and Raytheon Technologies. Even if some of their products are currently needed for the legitimate cause of helping Ukraine, much of what that do is still inherently objectionable. A long-term, large-scale build-up of weapons spending is not what we need.

Moreover, the major military contractors have long rap sheets involving repeated violations of the False Claims Act in their dealings with the Pentagon as well as bribery, export control transgressions and other offenses. None of them are model corporate citizens.

The sad truth is that the decisions of ethical investors will make little difference in the future of the military contractors. With or without an ESG seal of approval, they are riding high and will continue to prosper as international conflicts intensify. We can only hope that the world calms down, and we can go back to treating weapons producers with the same disdain we direct toward coal and tobacco companies.