When it comes to trends around sustainable investing, “there is an increasing understanding that sustainability is a journey,” thanks to increasing maturity amongst investors and market participants, independent director Nathalie Dogniez told Delano during an interview on trends around sustainable investing, challenges and more. Dogniez is also the chair of the Luxembourg Sustainable Finance Initiative’s ESG data working group and was recently appointed chair of Eurosif, a pan-European association that promotes sustainable finance at the European level.
“We are shifting away from looking at sustainability investing from the lens of compliance, or black-and-white approach, and opposing investment into sustainable activities or sustainable companies and non-sustainable companies, towards what I would call a true sustainability process and towards a transition concept.”
For Dogniez, the EU recommendation on facilitating transition finance is one of the most important publications that the EU put out in 2023. Published in June 2023, the EU’s sustainable finance package aims to support companies and the financial sector while encouraging private funding of transition projects and technologies. The driver behind this recommendation, said Dogniez, is the “huge need” for financing. “We would require an additional €700bn per year until 2030, just to finance the decarbonisation of the economy and achieve the objective in terms of greenhouse gas emissions, which is reduction of 55% by 2030.”
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As things stand now, there are three categories of investment. “You would have the investment with absolutely no sustainability objective or ambition. On the other end, you have investments that are made in activities or companies that are considered sustainable, because they are already today generating a positive sustainable impact. And you would have investment in transition finance; so, financing the transition towards sustainable activities. And from a journey standpoint, you could say, ‘Well, this is also generating--or even more generating--positive impact by transforming activities that could be considered as ‘brown’ today into ‘green’ activities.”
A press release from the European Commission notes that “the objective is to facilitate transition finance, not only for companies that have strong sustainability records already, but also for those that are at different starting points, with credible plans or targets to improve their sustainability performance.”
Data a top challenge
Besides the need for funding, the field of sustainable finance is faced with challenges. Data is a key challenge, in particular private (or non-listed) company data, Tiago Freire de Andrade, CEO and co-founder of LynxAI, told Delano during a separate interview. Non-listed companies are not “forced” to publish every year or every quarter, he added. “The lack of data is clearly the main challenge.”
LynxAI is a technology platform that aggregates ESG data and provides interactive dashboards to facilitate analysis, so it might seem like a easy answer for Freire de Andrade to say that data is the main challenge.
The challenge remains the availability, the comparability, the reliability and the cost of the data
But the need for data was a challenge that was echoed by Dogniez. For the independent director, “to be able to determine that an investment is sustainable or that you’re financing the transition, you need to be able to measure the outcome. And for this, you need to have proper data from the underlying company, and today, the challenge remains the availability, the comparability, the reliability and the cost of the data.”
“Today, you have--I would say-- very stringent reporting requirements at the level of the financial product, but not yet at the level of the underlying company,” she said.
Standardisation and complexity issues
Challenges related to the standardisation of data were also mentioned by both Dogniez and Freire de Andrade.
“If you look at financial reporting, for instance, this has been--I would say--defined, standardised over decades, and with proper auditing requirements,” said Dogniez. For the non-financial data like ESG data, it remains today--to a large extent--voluntary reporting with no uniform standardised reporting standards, with no or limited auditing requirements. So, as a result, not all the ESG data that would be required to properly measure--I would say--sustainability outcomes are always available.”
“In the absence of proper--I would say--measurements, many of the data remain estimated data: data estimated by the company, by the data provider or by market participants. There is no requirement for these data to be audited, and as a part of that, the cost for acquiring and validating the data are quite significant,” added Dogniez. “Here, also very often, we talk about big data, because you have hundreds of KPI [key performance indicators] per company, which is adding also cost in terms of technology to implement, I would say, data validation processes.”
In Europe, the Corporate Sustainability Reporting Directive (CSRD) will improve the situation, she said, “but it will take years because it’s only starting this year, and it’s a phased introduction.” Taking a “wider perspective, the availability and comparability of ESG data will also improve on a worldwide basis because there is fortunately work that is conducted in terms of interoperability between” different countries and regions.
This means that data reported under European standards will be compliant with other standards, but the opposite may not necessarily be the same as European standards are “more demanding,” said Dogniez. “For companies not reporting under European standards, some gap in terms of data will remain.
Another key challenge from the investor perspective is complexity, she added. “When you talk about assessing sustainability impact--both positive and negative--when you talk about science-based targets, transition plans, those notions are very complex and it’s not always easy for investors to navigate through--I’d say--the sustainability terms.”
Listen to the story
How, then, can investors navigate through all this complex information?
“Listen to the story,” replied Dogniez. “Of course there should be some proper data reported in terms of measuring the outcome, but only invest in projects or in financial instruments where you understand the sustainability journey behind. I would say for me, a good sustainability report is a report where the investor really understands what is the sustainability objective of the manager and how it has been implemented.”
For example, “if the approach is about engagement, the manager should be able to articulate what is its engagement focus, how it has been implemented throughout the year and what has been, I would say, the result on nearly a stock-by-stock level. If the approach is towards a transition plan, the manager should be able to articulate in a way that the investor would understand how the different investments sit on a pathway towards net zero, what are the actions that have been implemented and what progress has been made.”
Sifting through the data
For Freire de Andrade, “Standardisation is a big challenge. And it’s a big question,” he added. “I think, on the collection of data, you should be standardised. But on the decisions, you should not be. That’s our company’s opinion.”
“Standardisation on decisions is very difficult,” he argued, offering an example. Say you have a French investor and a German investor--“and in Luxembourg, of course, you have both who are very present”--and the investment in question concerns nuclear energy. Generally speaking, “Germans are against nuclear energy. The French are in favour of nuclear energy. So you have this situation here: how do you standardise what is ‘good’ and what is ‘bad’? What is more important? Is it CO2 emissions, or is it water pollution?” With hundreds of ESG-related data points, you have to be able to decide what’s important to you.
“I like the approach that the European Union made, which is: be positive to a specific topic and not negative to all the others,” said Freire de Andrade. “You should not do harm to any of those metrics. I think that’s the baseline.”
On top of that, “then you have to do something good--I think that also makes sense--so that you can say that you are an ESG fund or a green one,” he added. Nomenclature, or fund naming, can also create issues. Take, for instance, a tobacco company. Tobacco kills more than 8m people per year, according to the World Health Organisation, but maybe the tobacco company aims to preserve nature or reduce waste. What about a company that was causing a lot of environmental problems but is now making big changes to reduce their environmental impact? Should these companies be considered a sustainable company?
Don’t say green. Green is too general. Green includes hundreds of metrics
“So I like the approach, ‘do not do harm to any of these criteria.’ And, do good to a specific criteria,” explained Freire de Andrade. “Don’t say green. Green is too general. Green includes hundreds of metrics.” It’s important to monitor and report on decisions. Our approach is: you have to have a profile of all the companies [in which you] invest, in all the metrics. And if something is happening around a specific metric of a specific company, you have to make a report out of that. If the [Luxembourg Financial Sector Supervisory Commission] CSSF asks you, ‘are you monitoring this company, this scandal, this news that got out? Are you monitoring?’ You have to have a report on that and your decisions on that. ‘Yes, I’m reporting, and I’ve talked with the company, and they are making improvements on that. Those are the next steps. That’s why I still invest.’ Whatever your decision is, you have to report on that… The actionable thing is catching the red flag as soon as possible.”
This doesn’t solve the situation completely and there’s still a lot of noise around ESG criteria,” said Freire de Andrade. On top of that, “we have to trust the ones that give the criteria, and I believe that the European Union is the right institution to do that, and not American scorers, especially because the correlation between ESG scores is around 0.60, which is not a correlation. If you go for credit scores--the triple AAA that we are used to, it’s 0.94, I believe--so that would be a correlation.”
Artificial intelligence should be implemented on portfolio analysis, concluded Freire de Andrade. “It has to be. It’s much faster. Think about this: if you have your ESG standards within the platform and AI already knows your ESG standards--what you want in terms of ESG, do not do significant harm to this and that, and do positive to a specific metric--then, every time that you analyse a new company, you can have have the report immediately done, automatically done, ready to send to the portfolio manager in London, or to the board in Luxembourg, or to the CSSF.” For him, a “future trend in sustainable investing is AI.” Analysis and reports should be done in 30 minutes instead of two weeks, he argued.
Greenwashing concerns
Greenwashing is a major concern when it comes to sustainable finance. One of the things that greenwashing does is “undermine trust,” said Freire de Andrade. “What we’ve seen in the last few years is consultants tackling exactly what the regulation says and nothing else.” You can’t only monitor those six metrics. “You should monitor all of them, which is of course, more difficult.”
Another issue is the speed of reactivity. “If something happens with a company in which the fund already invests, and they discover a big scandal, how fast are they to react?” he said. Some may take months or even years to react, “and I think they should be faster.” Procedures should be faster and automatic, using innovative technological solutions. “You have to be always monitoring, so you don’t have the risk of suddenly discovering that you are investing in companies that have not been green--simplifying the term--for the last few months.”
“If I look at the risk of greenwashing from the manager standpoint,” said Dogniez, “I think what is really important is to ensure that there is proper oversight and verification of the process and measurement of the achievement, either in terms of ESG KPIs or impact income. And for this, you need proper data and proper mechanisms to ensure the reliability of the data being used.”
From an investor’s standpoint, “ensure that you really understand the journey, so that the story that is being told to you is understandable and articulated in a way that you feel comfortable about what has been implemented and the outcome.”
An alternate version of this article first appeared in the Summer 2024 issue of Delano magazine.
