Environmental, social and governance (ESG) ratings are essential for banks and the companies they fund. But too often these sustainability assessments are opaque and inconsistent.
Now, regulations that would improve the transparency of ESG ratings have just moved closer.
The International Regulatory Strategy Group (IRSG), in the UK, has declared its support for the regulation of ESG ratings. Its backing is likely to encourage the Financial Conduct Authority (FCA) to draft rules that would require ratings agencies to show how they conduct their sustainability assessments. Similar regulations are on the cards in other countries.
The IRSG called for a “principles-based and proportionate set of rules” in line with international moves to bring “consistency and standardisation” to ESG data. The financial services thinktank was responding to the FCA’s request last year for comments on whether it should impose such regulations.
As Accenture’s global financial services sustainability lead, I’m delighted that the fog that often surrounds ESG ratings is starting to clear. Greater clarity about what ESG ratings track will help organizations across all industries improve compliance. Furthermore, it will enable banks to more effectively fund companies and projects that promote a sustainable future. They’ll have a clearer understanding of their corporate customers’ commitment to sustainability. Murky tactics such as greenwashing, where companies highlight their positive ESG initiatives but underplay negative activities, will be easier to spot.
Five key recommendations to enhance ESG ratings
The IRSG, together with Accenture, conducted a comprehensive investigation of the ESG ratings market in the UK. It put forward five key recommendations:
- Consistency and scope: The financial services industry should review the terms used in ESG ratings to ensure consistency and clarity. It ought to widen the scope of such ratings and align them with those of other international jurisdictions.
- Co-ordination and collaboration: Ratings agencies, financial services firms and policymakers should work together to devise regulations that recognize that ESG ratings are nascent and likely to change. They should work with their international counterparts to co-ordinate the development of further regulations.
- Transparency: The financial services industry should develop methodologies that explain the objectives of ESG ratings and show how agencies calculate them. They ought to consider separating environmental, social and governance ratings into discrete categories. This would give better insight into the sustainability of organizations under review. Regulators should also set standards that govern the marketing of ESG ratings products.
- Data standardization: Participants in the financial services industry need to work together to improve the quality, consistency and availability of data used in ESG ratings. The collection and disclosure of ESG data should meet global requirements, such as those drafted by the International Sustainability Standards Board.
- Investor protection: Ratings agencies should distinguish products that gauge ESG risk from those that calculate ESG impact because retail investors often confuse the two categories. ESG risk products measure factors that might affect the performance of an organization. By contrast, ESG impact ratings assess the environmental and social impact of an organization. Furthermore, regulators should ensure that ESG ratings agencies declare any potential conflicts of interest.
I’m fortunate to sit on the board of the IRSG. And I’m pleased that it’s taking a stand and backing regulations. Thoughtful, pragmatic regulation of ESG ratings will be good for our industry. If the FCA goes this route, it will provide the financial services industry with the assurance that the ESG data and analysis it needs are reliable and trustworthy. Such assurance is essential. Without it, banks will be unable to ensure the integrity of their sustainability initiatives.
If you’d like to discuss this post or other matters about sustainability in the banking industry you can contact me here.
In my next blog post, I’ll discuss the importance of the rise of sustainable banking. I’ll also be discussing other aspects of sustainability in the financial services sector on my LinkedIn site. In the meantime, you might be interested in reading our recent report on how to capitalize on the opportunities that sustainable banking offers.Read report