ESG After COVID-19: Will it Be Different This Time?

Blog June 8, 2020

COVID-19 raises questions about impacts on ESG issues like worker health and safety, and systemic risks like income inequality.  While the existential threat of climate change has dominated the agenda in recent years, the pandemic has renewed focus on Social and Governance issues.

Looking back over the past two decades, market cycles offer an opportunity to evaluate the trajectory and influence of ESG investing. In 2000, the end of the tech frenzy marked the end of a decade of ascendancy in ESG investing. Following the crash, many investors quickly turned their attention away from sustainability, reflecting the reality that ESG did not have deep roots in financial practice. In 2008, the financial crisis triggered concerns about decimation of global financial system. Once again, most investors and policymakers were quick to jettison ESG because there were more “serious” issues to address. Had they given “serious” consideration to concerns raised by ESG investors about predatory and subprime lending, and systemic risk from deregulation and lax oversight, they might have been better prepared for what happened.

With the COVID-19 global pandemic precipitating an economic and social crisis, we once again have a chance to assess progress in ESG analysis as a means of identifying risks and opportunities, and making sustainable, long-term investment decisions. By bringing sustainability considerations into financial and economic decisions that drive social and environmental outcomes, ESG investors intend to reduce external costs that negatively impact peoples’ lives and the environment, and to mitigate systems-level risk. The need for this perspective even more clear in the face of the growing evidence that inequality determines who bears the burdens of the pandemic.

The pandemic has also shown a spotlight on the rapidly evolving nature of materiality in the digital age. Following Truvalue Labs’ publication on Dynamic Materiality, a recent WEF publication, Embracing the New Age of Materiality, deepens our understanding about factors determining materiality and accelerating the velocity of changes in materiality today. This topic also features in a recent paper, Corporate Resilience and Response During COVID-19 by George Serafeim, et al, and a Forbes article by Bob Eccles.

How are companies responding as employers? What will they do to physically and financially protect workers in this dire situation? Will they accept sustainability objectives as conditions for government assistance? Could sustainability standards enter into a new “social compact”? Will we come out of this to the status quo ante virus or a “new” normal?

There are myriad opinions and anecdotes about these matters. Fortunately, rapid advances in artificial intelligence (AI) and computing power enable us to get behind the headlines for deeper, more systematic insights into what is really driving the market.

What Has Changed?

Today, it is axiomatic that integrating material ESG issues into investment decisions can improve financial and sustainability results. According to the World Economic Forum (WEF) report, “the combination of transparency and rising stakeholder influence…is driving this acceleration.”

The internet has radically transformed the economics of information, contributing to what the WEF refers to as “hyper transparency”. Data and other information are now less expensive to disseminate and easier to access than ever before. Technology simultaneously facilitates data proliferation on the internet and enables its collection and analysis through AI and massive computing power.

In our highly interconnected world, social media and other communication channels give corporate stakeholders a voice on environmental, social and governance issues. Though corporations once principally controlled the narrative about their businesses, actors such as large asset owners, employees, suppliers and environmental advocates, now influence what is material for investors and have put sustainability on the agenda. And stakeholders’ capacity to shape perceptions about companies can affect market valuations.

Analyzing the Pandemic in Real Time

In recent months, there has been a torrent of commentary about the social and economic impacts of the virus – health risks to workers, layoffs, the calamitous impact on the airline and hospitality industries, how video conferencing and food delivery companies will benefit, and so on. Whereas much of this commentary is intuitive and anecdotal, technology now enables us to systematically identify and analyze this kind of information. This information is available free on Truvalue Labs’ Coronavirus ESG Monitor.

At the beginning of the year, more than half the small amount of information about COVID-19 mined from more that 100,000 sources around the globe was from Mandarin language sources, despite the Chinese government’s effort to suppress reporting on the topic. At the end of February, COVID-related content was about 10% of total content. It peaked at 66% in late March and today it represents about 45%.

COVID-19 Volume | Truvalue Labs

We can parse COVID-related content to discern which ESG issues are paramount in the context of the pandemic. While the virus is the impetus for the story, within it is a narrative about what is happening at companies that reveals insights about their culture and quality of management.

Five SASB categories represent the majority of the volume of information flow in COVID-related content. Not surprisingly, the key issues are Employee Health and Safety, Labor Practices, Access and Affordability, Supply Chain Management, and Product Quality and Safety.

The lens of Dynamic MaterialityTM, the process determining which ESG issues matter most when the pace of change quickens, documents which issues matter most to companies and investors in today’s rapidly evolving world. Currently, more than half of the COVID-related volume is attributable to Employee Health and Safety and Labor Practices, which along with Supply Chain Management had negligible data flow at the beginning of the period. The Legal and Regulatory Environment has also emerged as an issue as companies have sought bailout funding from governments.

The COVID-19 pandemic has put the social dimension of sustainability irrevocably on the agenda. In addition to the immediate health risks from COVID-19, the pandemic has resulted in profound social dislocation, elevating the S in ESG to a new level of prominence.  Truvalue Labs has created five distinct signals – all related to social relations – based on its COVID-19 data: Social Impact, Labor, Response, Economy and Supply Chain. As the virus spread, the data reveals the extent to which Social Impact and Economy have become the dominant issues for stakeholders of corporations.

SASB Categories | Truvalue Labs

Conclusion

The future of ESG after COVID-19? It will be different this time. The social and technological conditions that gave rise to Dynamic Materiality signify that there is no turning back on sustainability. ESG investors and other stakeholders won’t allow the current economic downturn to be used as an excuse for abandoning their objectives – as if addressing employee health and safety, income inequality and climate change are luxuries.

The pandemic brought into stark relief the impact of racial, gender and income inequality as determinants of who loses their job, who is forced to choose between working and risking their health, who has access to healthcare, who can work from home. The murder of George Floyd triggered a response that resonated across the US and around the world. The pandemic has revealed that social inequalities are unsustainable. It is more essential than ever for investors to use to power of their assets to leverage change through the capital markets.

The digital age has given corporate stakeholders the agency and tools to pursue a socially and environmentally sustainable world. The ESG genie cannot be put back in the bottle.

ABOUT THE AUTHOR

Thomas Kuh, PhD
Head of Index,Truvalue Labs

Thomas Kuh, PhD is an industry expert with decades of expertise in ESG indices and ESG research. As Head of Index at Truvalue Labs, he creates benchmarks for implementing ESG investment strategies and licensing indices for ETFs, mutual funds and institutional accounts.  Prior to Truvalue Labs, Thomas was Executive Director, Global Head of ESG Indexes, for seven years at MSCI, where he spearheaded the development of an innovative suite of equity and fixed income ESG indices.