One storyline that was somewhat overlooked during the unfolding drama surrounding sleepy videogame retailer GameStop earlier this month – a David vs. Goliath story egged on by Elon Musk in which thousands of small retail day traders looked to deep-six hedge funds’ short bets on the stock – was where this so-called trend of ‘meme’ investing is likely to head next. In a recent research note, analysts at Bank of America said they are concerned that “ESG darlings” (Environmental, Social, and Corporate Governance funds) might be affected by “the next leg” of this trend.
Sustainable investing is surging and according to CNBC, ESG now accounts for 33 percent of total U.S. assets under management, which may be one of the reasons day traders feel they may be overvalued and ripe for a “reverse GameStop” gambit. The institutional investment community, however, isn’t so sure the sector is overvalued. Andrew Poreda, the chief ESG research analyst at Austin, Texas-based Sage Advisory Services, an independent investment firm with more than $16 billion under management, says that “While there is a distinct possibility that some ESG funds are overvalued, we at Sage strongly assert that sustainable companies, in general, are positioned for long-term success, and investing in them will ultimately lead to better returns over time.”
Investors have poured record amounts of money in recent years into funds that aim to contain climate change and promote social good; in 2020 ESG inflow accounted for about a fourth of the money that flowed into all U.S. stock and bond mutual funds, capturing over $50 billion of net new money from investors in 2020, more than doubling the $21 billion funneled into funds that apply environmental, social and governance principles in 2019, according to Morningstar.
Environmental, Social, and Corporate Governance Rhetoric
This much is true: each year the so-called ESG movement has been getting more and more dedicated pages in corporate annual reports, as companies look to outdo one another with an array of feel-good efforts. “I’ll see your recycled ocean plastics initiative and up the ante by one community microfinance program in rural Mozambique.”
Publications like Barron’s, the so-called “Bible” of the institutional investor community, have egged on the ESG trend, issuing listicles like their recent “100 Most Sustainable Companies of 2021” which ranks publicly traded companies based on their own set of squishy ESG parameters. Of course, this is not to suggest that ESG initiatives aren’t doing any good. Many, in fact, are changing lives and leaving the planet a wee bit healthier; but whether the real end-goal is really more about qualifying stocks to be part of ESG portfolios, assuaging retail investors, and endearing themselves to ‘woke’ end-consumers is still something of an open question.
According to Doug Woodring, Founder and Managing Director at Hong Kong-based Ocean Recovery Alliance, a Hong Kong and California-based non-profit organization that works on issues related to ocean health and specifically plastics pollution, “Both ESG investing and financing are here to stay, with steadily increasing numbers of pension funds, asset managers, sovereign wealth funds, stock exchanges and banks requiring, or incentivizing, appropriate and meaningful ESG information and activities in order for companies to be deemed ‘credible’ as a fund recipient.
“Moreover, many of the incoming generation of new employees are specifically asking about the ESG activities that their potential employers undertake, all of which means that fashion and retailers need to consider not only their packaging and consumer-facing content but must look far into their supply chains to make sure they don’t get caught out with a bad story. Investing with real and meaningful ESG metrics, in fact, is one of the only, and most useful ways to reshape sustainable planet, with improved environments for our communities which businesses can then continue to serve,” added Woodring.
Matters of Debate
Although the concept of selective investment – where capital investors seek outcomes that go beyond financial ROI – is not a new one, increased political polarization at the national and geopolitical level as well as a steady cadence from both the scientific community and economists that state actors alone will not be able to solve the planet’s most pressing environmental and humanitarian concerns, has spurred consumer activism into overdrive and C-Suites are following suit.
Sir Roland Cohen, who has been called “the father of British venture capital” has been leaning into the issue of ESG investments, but cautions that it is still early days telling the Financial Times that, “The state of ESG now is very similar to what the venture capital industry was like when I started four decades ago.” In his recent book, Impact: Reshaping Capitalism to Drive Real Change, Cohen writes that “For more than 200 years, our existing version of capitalism drove prosperity and lifted billions out of poverty, but it no longer fulfils its promise to deliver widespread economic improvement and social progress. Its negative social and environmental consequences have become so great that we can no longer handle them.”
Policymakers and regulators around the globe are also becoming more active in requiring mandatory ESG disclosures. The European Union (EU), for example, will be seeking to shore up its “Non-Financial Reporting Directive” in 2021, which requires ESG disclosure from companies with over 500 employees that conduct business in the EU. And with U.S. President Joe Biden having appointed former U.S. Secretary of State John Kerry as the nation’s climate czar, focus on ESG initiatives will likely grow significantly in scope and magnitude over the next few years.
Prêt-à-Jeter (Ready to Dump)
But what about the fashion and retail industries? ESG specialists cite so-called fast fashion – a trend that has made clothing more affordable and accessible – as a major area of concern due to its steep environmental cost. Data from the World Economic Forum (WEF) indicates that the fashion industry produces 10 percent of all global carbon emissions and is the second-largest consumer of the world’s fresh water supply. What has been a boon on both the demand and supply side of the fashion production curve – clothing output has roughly doubled since 2000 – is taking a massive toll on the environment.
Fast fashion also means faster turnover, more closet churn, and more waste. Today the average consumer buys 60 percent more garments in a given year than in 2000, yet only she will only keep these clothes for half as long. This is perhaps a marker of success of brands’ move to so-called microcollections. In recent years, most European fashion companies went from offering a standard Spring and Fall collection in 2000 to five or more a year now; Swedish juggernaut H&M regularly launches north of 15 collections in a 12-month period while Spanish brand Zara regularly puts out up to 24 microcollections in a typical year.
This means lots of this clothing ends up in the dump. WEF researchers estimate that the equivalent of one garbage truck full of clothes is burned or sent to a landfill every second. Even more troublesome is the inconvenient fact that what doesn’t get sent to the dump often ends up in our oceans, impacting the earth’s biosystem. Washing clothes releases around 500,000 tons of polyester microfibers into the ocean each year — the equivalent of 50 billion plastic bottles – which releases two to three times more carbon emissions than cotton and comprises up to 31 percent of plastic pollution in the ocean.
“Historically, the fashion industry has done a lot of damage to the earth from a biodiversity perspective, so anything that companies can do to embrace a more ‘circular economy’ mindset in their business model will have a definite positive impact,” says Sage’s Poreda. “However, we are currently seeing many fashion companies that happen to be stepping up to the challenge to handle the circular economy challenge, and we are also seeing many companies pledging to fight climate change with ambitious ‘net zero’ initiatives.”
For Fashion and Retail, ESG Is no Longer Optional
Fashion, of course, is not the only sector that has an ESG problem, but because until recently its social and environmental impact had been so diffuse and decentralized, it was hard to pin down its macroenvironmental impact on a global level. The United Nations estimates that a single pair of jeans requires a kilogram of cotton, which requires about 10,000 liters of water – about 10 years’ worth of drinking water for one person. Fortunately, much of the industry is no longer in complete denial. Levi Strauss, for example, has been brutally honest and forthcoming about the environmental impact of its business. The company estimates that a pair of its iconic 501 blue jeans will produce the equivalent of 33.4kg of carbon dioxide equivalent across its entire lifespan – about the same as driving 69 miles in the average American car.
While major asset managers such as BlackRock are using their ownership stake to pressure companies to improve their ESG disclosures, consolidated standards are beginning to emerge so that reporting is gradually becoming less about PR hacks wordsmithing CEO statements and more about compliance officers laying down cold hard facts. Recently, four leading international ESG standards organizations declared their intent to collaborate on a combined set of ESG reporting requirements while the International Financial Reporting Standards (IFRS) – used by over 120 countries – has set forth a proposal to develop ESG standards of its own – something akin to GAAP for ESG.
The end results will be that fashion execs will likely have to become increasingly creative in how they tweak their production and supply chains to meet not only heightened investor and consumer pressure, but regulatory exigencies as well. Multi-brand and traditional retail department stores will also begin exerting another vector of pressure on fashion brands, tying floor space, inventory commitments, digital promotion, and brand exposure to ESG principles.
“The world of fashion is changing and I think ESG pressures being exerted by not only investors, retailers, and consumers but from regulators as well are going to force a lot of industry executives to rethink their business models,” commented Alvertos Revach, Investments Director of Luxembourg-based Humble Holdings, a portfolio investment vehicle that only invests in sustainable business, including vegan luxury shoe brand Aera. “I think we may have passed the apex of cheap fast fashion and are entering a new era of durable, timeless and sustainable fashion in which consumers are willing to pay more per item of clothing knowing that its quality will stand the test of time and that it was made in an environmentally and ethically appropriate way.”
If Revach is right, then perhaps the true irony of the ESG movement in fashion will be that with it will be increasingly hard to be out of fashion in the future, as fashion pivots for quality, sustainable and durable clothing priced at a premium.
However, where companies might have the most impact is how they help shape consumer behavior. Fast fashion is still an issue, and with markets like China having consumers that are gaining more disposable income by the second, we will have to keep an eye on how companies target various audiences. Companies that can convince consumers to buy less (which would likely mean higher quality/more expensive) and hold on to their products longer will probably have the most significant impact on lessening the industry’s overall environmental impact.