By Jack Mintz, March 17, 2022
In my last column, I talked about putting “security” into ESG (“environmental, social and governance”) calculations. Speaking to a group in Calgary last week, I was asked the key question of how to implement that.
Start by recalling the purpose of ESG, a concept I call nebulous, and for good reason. Agencies like Sustainalytics, MSCI ESG Research and Bloomberg ESG cash in on their rankings of companies to inform investors of potential risks related to a hundred or more factors, such as board composition, GHG emissions and labour code violations. The agencies have different methodologies to measuring and weighing these risks. Unfortunately, studies have shown little correlation either amongst these rankings or with portfolio returns. But that hasn’t prevented the emergence of a large cottage industry aimed at saving investors from having to analyze multiple ESG disclosure documents on their own.
One area that lends itself to a quantifiable approach is GHG emissions. For disclosure purposes, emissions are associated directly with the operations a company controls (Scope 1), indirectly with energy purchased from suppliers (Scope 2) or really indirectly through emissions in the downstream and upstream value chains not included in Scopes 1 and 2 (Scope 3). Of course, adding up all these emissions across companies would involve double-counting since Scope 2 and Scope 3 emissions calculated by company X will be Scope 1 emissions calculated by companies Y and Z.
To apply ESG to security we might use a similar approach. The key issue is that companies that have business relations with or in countries that are security risks for the Western alliance (such as Russia and China) could suddenly be an investment risk for shareholders…