ESG managers slam ‘ridiculous’ idea of ​​embracing arms stockpiles

(Bloomberg) — There is a group of fund managers overseeing environmental, social and governance investments who fear their field is facing another blow to its credibility.

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Since the arrival of war in Europe, arms lobbyists, financial analysts and some bankers have been discussing the merits of treating arms as ESG assets. And as European lawmakers now face pressure to add defense firms to the bloc’s environmental, social and governance rulebook, critics wonder whether the label risks losing meaning.

“If we were talking about this two years ago, people would laugh at us for how much defense stock you put in an ESG portfolio,” said James Penny, chief investment officer at TAM Asset Management, a company based in London who has been managing ESG portfolios for almost a decade.

This is the latest in a series of tough times for the $40 trillion ESG industry. Sasja Beslik, ESG expert and author of “Where the Money Tree Grows,” called the gun debate “appalling.” EMEA head of ESG research at UBS Investment Bank Vicki Kalb called it “emotional”, while ESG data specialist Util said the idea of ​​allowing defense companies to be seen as durable assets is wrong.

Some ESG classifications were already starting to look dodgy before the weapons deliberation, said Eric Pedersen, head of responsible investments at Nordea Asset Management. Importantly, Europe’s decision to give gas and nuclear power a “green” label signaled that policymakers were opening the door to more ESG contortions, he said.

Without “the precedent of gas and nuclear, everyone would have said: Weapons in the social taxonomy? You must be dreaming,” according to Pedersen.

It’s part of a broader “current problem with ESG,” Penny said, referring to the defense industry. “A topic that was largely off-limits a year ago is now suddenly potentially suitable for ESG.”

Beslik, who fled Bosnia as a war refugee at the age of 19 and now oversees sustainable investing at Danish pension fund PFA, said he was convinced that guns “don’t do not belong to the ESG space at all”.

Still, some ESG investor clients are advised to review the guns. In a March note, analysts at Citigroup Inc. said there was a good chance the weapons would feature in the next chapter of Europe’s ESG rulebook, known as the social taxonomy. In light of the war, the European Union appears ready to define the arms trade as crucial for “maintaining peace, stability and social goods”, they wrote.

Along the same lines, Jefferies analysts said ESG clients who have historically avoided defense firms may change course as regulators take another look.

Read more: War in Ukraine may lead to ESG inclusion of defence: Citi, Jefferies

In a guidance document published in February, the European Commission said it was important that “sustainable finance initiatives remain consistent with European Union efforts to facilitate sufficient access for European industry from defense to financing and investment”.

The idea that weapons could be treated as ESG assets took off after Russia invaded Ukraine. Arming Ukraine is now the West’s most urgent strategy to help protect the country from Vladimir Putin’s invasion, turning the weapons provided into tools for defending democracy.

Former DWS Group sustainability manager turned ESG whistleblower Desiree Fixler told a recent panel hosted by Bloomberg Intelligence that “Ukraine raises the question of ‘what is ESG? .” As to whether defensive actions are good or bad, she further says that “war raises so many questions.”

The evolution of the status of defense companies within the ESG has coincided with significant gains in the stock prices of a number of major arms producers. Rheinmetall AG, a German manufacturer of military equipment, has nearly doubled in value since the February 24 invasion.

According to Penny, the sudden outperformance of defense stocks has prompted some investors to wonder why they are not included in ESG portfolios. But that kind of reasoning “undermines the whole ESG movement,” he said.

Read more: Only one thing will help Ukraine now. Arms: Thérèse Raphaël

There are already parts of the European ESG regulation that make room for advocacy actions, including so-called Article 8 funds, which are supposed to promote overall ESG characteristics. According to data compiled by Bloomberg, there are approximately $3.5 billion of listed aerospace and defense investments in these funds.

Pedersen said Nordea’s Article 8 funds “may hold” defense stock, though a host of additional exclusions still apply, including a ban on all nuclear and controversial weapons. He said it was hard to imagine weapons falling into the stricter ESG category of funds known as Article 9.

Kiran Aziz, responsible investment manager at KLP, an Oslo-based pension company, said it only considers defense actions if manufacturers can prove their products are not used in illegal disputes, which means that KLP excludes companies tainted with “serious and systematic violations”. to international law”.

But such conditions can be difficult to enforce, according to Hervé Guez, Mirova’s chief investment officer. “Weapons manufacturers have no way of choosing their customers and refusing contracts with undemocratic regimes,” he said.

There’s a clear case to be made for investing in weapons, but there’s no reason to call those investments sustainable, Beslik said. Ultimately, presenting the debate as something “for the ESG community to look at” seems “pretty crazy,” he said.

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