What Investors Should Expect for ESG in 2023

By Katie Mehnert and Hillary Holmes; nasdaq.com

Published December 8, 2022

ESG is playing a larger role than ever in investors’ portfolios. A new survey from PwC finds that certain environmental, social and governance issues are now among investors’ top 5 concerns, with 49% citing effective corporate governance and 44% citing the need to reduce greenhouse gas emissions. Deutsche Bank, meanwhile, found that “more than half of investors (53%) regard climate change as the most important factor affecting their investment decisions, up from 47% last year.”

Still, new questions and concerns are being raised. CNBC reported that there's an “ESG backlash” inside companies, with executives questioning “the value of ESG metrics” and expressing concerns about overregulation. Meanwhile, environmental activists have their own concerns, worrying that counting on the private sector will lead to failure. As two professors explained in the Harvard Business Review, ESG investing “will not tackle our generation’s urgent environmental and social challenges.”

The head of the U.N. Global Compact, which coined the term ESG in 2005, recently wrote in Fortune that “critics have a point.” The rise of ESG is not creating the needed movement toward key goals such as tackling “runaway climate change” and the “widening social and economic inequalities,” Sanda Ojiambo wrote. But, she added, “the core reasoning behind the interconnectedness of ESG remains sound,” and it is succeeding on key measures.

In this landscape, what should investors expect for ESG in 2023? We track these issues closely, in the energy sector and beyond. The ALLY Energy ESG Council recently gathered a team of experts to get their views as well.

Here are a few of our predictions.

Crucial to the workforce

ESG is here to stay. To most people, it’s a sensible and important part of business. It’s also vital for the most important part of running a successful business: attracting talent.

Stephanie Weiler, who oversees ESG for Alvarez & Marsal, said in our council event that today’s employees want to work for companies with strong ESG policies. Many value “corporate purpose over salary,” and want to know that they’re contributing positively not only to their company, but also to “broader societal goals.”

The DEI (diversity, equity and inclusion) part of ESG has been facing some backlash as well. Some people are upset that these efforts are not creating adequate change, while others, especially some white men, feel disadvantaged by these efforts. Companies need to navigate these challenges carefully and fairly. When they do so, they are rewarded by top performers of all backgrounds through attraction and retention, lifting the bottom line and share values.

Increasing role in finance

In just a few years, ESG assets have grown to be worth trillions of dollars. Bloomberg reports that they could hit a massive $53 trillion by 2025. Green bonds, social bonds, sustainability-linked loans and related products provide excellent ways for companies to put their money where their mouth is, while accessing a more diverse investor base and even less expensive capital.

For investors, this means that having ESG in your portfolio will continue to pay off. As McKinsey reported, of 2,000 studies, about 70% found a positive relationship between ESG scores and financial returns.

A recent study from Stanford found that younger investors overwhelmingly describe themselves as very concerned about environmental issues. Each year these younger generations become a larger portion of the investor community.

Regulation brings litigation

While the SEC has recently been less bullish on the timing for its proposed climate disclosure rules, we can reasonably expect some to be adopted in 2023, adding to companies’ regulatory burden and G&A (general and administrative) costs.

Increased disclosures also make companies more susceptible to accusations of false or misleading statements. We are likely to see litigation from shareholders, consumers and government agencies such as the FTC and SEC, which can bring costs and tarnished reputations.

A time of opportunity

The year ahead also offers a great chance to build consensus around ESG issues. The mix of failures and successes at the recent COP27 summit is leading more people to want to take environmental action in the private sector. Rising tensions in Russia and elsewhere have spotlighted the need for security, reliability, and sustainability everywhere. Meanwhile, results of the Inflation Reduction Act will be seen in the United States. All these factors can help accelerate the transition to renewable energy, and build a more equitable workforce.

With no major U.S. elections in the year ahead, there's opportunity for more coming together across party lines to address important issues. And as more countries recover from the pandemic, there's more opportunity for global conversations on ESG matters. If leaders take these opportunities, we can make great headway in 2023.

Katie Mehnert is founder and CEO of ALLY Energy. Hillary Holmes is co-chair of the capital markets practice group at Gibson, Dunn & Crutcher.