A state judge recently blocked Oklahoma’s anti-ESG law, marking the latest volley in a multi-year game of political ping pong. Lawmakers in at least 33 states have now introduced anti-ESG bills. In the corporate world, “greenwashing” has turned into “greenhushing,” with mentions of ESG dropping by nearly two-thirds on earnings calls of publicly traded companies in the U.S.
In her injunction, District Court Judge Sheila Stinson found that the anti-ESG law ran afoul of the state’s constitutional mandate that pension funds be managed for the exclusive benefit of the beneficiaries. In other words, subjecting investment decisions to the whims of the culture wars would be bad for the pensioners who rely on returns for their retirement, college funds, and medical bills.
It stands to reason. After all, data suggest that ESG and market-beating returns are two sides of the same coin. That flies in the face of the anti-ESG movement’s conviction that ESG inevitably means lower returns, and that by focusing on the environmental, social, or governance implications of investments, investors fail to fulfill their fiduciary obligation to maximize returns.
This belief is so common and ingrained in the investor perspective that anti-ESG activism has shaped itself around it. The American Legislative Exchange Council’s “model” anti-ESG legislation was designed to prevent state pension funds from sacrificing "investment returns... to promote goals unrelated to those pecuniary interests.” According to ALEC’s chief economist, “Politically motivated investing, by definition, takes rates of return off the table.”
On the surface, this argument makes some sense. Surely, consideration of non-economic factors must come at the expense of economic returns, right?
The data, however, tell a very different story. Time after time, analyses show that ESG-oriented funds consistently outperform traditional investments. Since 2011, we’ve seen our gap-closing investments rank in the top quartile of all venture funds. We’re not the only ones: As of December 2023, KKR’s impact portfolio was among their best-performing funds, outperforming funds in health care and next-gen tech.
In an ironic twist, the non-economic considerations of political leaders are hobbling the ability of investors to obtain above-average returns.
When investors turn their back on ESG in response to political pressures, everyday Americans who rely on the returns lose. Additionally, these anti-ESG measures can actually end up costing taxpayers money.
After Texas passed laws preventing public contracts with investors that exclude fossil fuels and firearms from their investments, municipalities faced limited choices of underwriters and higher expenses. This led to increased costs—between $300 million and $500 million in additional interest in the eight months following the new laws, according to research from the University of Pennsylvania. Oklahoma experienced similar financial downsides: An estimated $185 million in additional expenses, or about $11 million per month, according to a report from the Oklahoma Rural Association.
Of course, by too often advancing weak outcome metrics and inchoate leadership, the ESG movement has not done itself any favors, either. In recent years, the consumer appeal of ESG has fueled corporate and investor rhetoric that has often outstripped the reality of fuzzy definitions that were neither measurable nor impactful. But despite the actions of some bad—or simply unsophisticated—actors, passing blanket bans on ESG-oriented investment is throwing the baby out with the bathwater.
So what should investors do? Within our firm, we start by acknowledging that all investments have a broader societal impact—and that this impact can be positive, neutral, or negative. Instead of myopically focusing on a handful of metrics that ostensibly reflect ESG alignment but may not be strongly correlated with driving value, we ask a simple question: Who would be better off, and who would be left behind, if this investment were to succeed?
This gap-closing strategy ensures we shrink, rather than exacerbate, gaps of access and opportunity. We include a range of stakeholders when considering who is better off and who is worse off, including employees, consumers, and the general public. Investors seeking better returns should act similarly, identifying funds and companies that create opportunities for more Americans, and/or leave Americans with healthier places to live, work, and learn. These are the types of companies that have yielded top-quartile returns for our firm.
When politicians pick winners and losers, the real losers are often the American taxpayers. It is the job of capital allocators, not state capitals, to manage inevitable market shake-outs. Both sides of the aisle should be wary when politicians usurp the responsibility of investors.
As is often the case when politics gets involved, sunlight is the best disinfectant. Greater transparency about both the disingenuous arguments made by anti-ESG advocates, as well as greater awareness of the market-beating returns of gap-closing investments, can keep pensions from becoming a game of political football. Americans should demand intellectual honesty from our elected officials, and advocate for the freedom to invest in ways that drive both positive social impact and strong returns.
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