Why ESG investing is poised to be the next big thing

ESG investing is simple, nascent, and often unidimensional. The widely used and rather conventional method classifies certain industries as high ESG risk and avoids investing in them. But this approach seems to lack depth as it ignores an important vector: change. 

By not focusing on the magnitude and direction of change, ESG investing often misses out on sustainable money-making opportunities.

It may sound right not to invest your money in companies burning up the globe, but it’s appropriate to invest in companies participating in change to reverse the current situation. This is where ESG investing can help make a difference, while also making money.

In the 1980s, the hole in the earth’s ozone layer was a pressing global crisis. Research findings suggested potential harm to the ozone layer from the use of everyday products like refrigeration devices. In 1985, the ozone depletion theory was proved right - a hole was discovered in the layer over Antarctica, vastly increasing risks to human, animal, and plant life.

This sparked public fear and in five years, the entire world came together to crack down on the culprit, chlorofluorocarbons (CFCs). The Montreal Protocol is the first and only treaty that had 197 countries come together and take collective action^[1], banning the use of CFCs in all industrialised countries by 2000, and in developing countries by 2010. CFCs were replaced with hydrochlorofluorocarbons (HCFCs), which are easier to break down and have less ozone-depletion potential.

But it doesn’t stop here. HCFCs are still damaging. They are almost 2000x stronger^[2] than CO2, and were eventually added to the control mechanisms of the treaty and replaced by hydrofluorocarbons (HFCs). HFCs don’t harm the ozone layer, but they act as a greenhouse gas, contributing to global warming. The world is now committed to reducing the use of HFCs up to 85% by 2045-50, replacing them with the much less harmful hydrofluoroolefins (HFOs), which have zero ozone-depletion potential and low global warming potential (GWP).

Would a conventional ESG lens allow for investing in a high-ESG-risk industry like fluorine? No. But, here’s the deal: the industry has moved from creating a hole in our atmosphere to working on reducing GWP.

Each migration (CFC to HCFC to HFC to HFO) has moved the entire world towards a greener future and will continue doing so.

HFC-134a, the most widely used HFC, has a GWP score of 1,360^[3] (CO2 is the base at 1). But the world will migrate to HFOs, which have GWP scores of between 1-5, and the demand cycle for fluorine manufacturers will remain buoyant. 

At least three fluorine manufacturers in India have participated in the greener migration and have been multi-baggers - SRF, Navin Fluorine, and Gujarat Fluorochemicals. This is an opportunity that factors for the vector of ‘change’, while still making money.

(The securities quoted are for purposes of illustration only.)

Similarly, conventional ESG investing would avoid a wide spectrum of industries, basing decisions on ‘what is’ rather than ‘what will be’.

Take cement, another essential commodity, as an example. Its production is a major source of CO₂ emissions and is said to contribute to 8% of the world’s carbon emissions^[4].

Cement manufacture necessitates heating all components at 1,300-1,500 degrees Celsius, which requires a lot of fuel and releases CO₂ as a by-product. However, these emissions have been reduced and have the potential to be cut by three-quarters by 2050.

Cement companies are increasingly using greener sources of fuel to generate heat, and are implanting waste heat recovery systems to capture excess heat and reduce fuel consumption. They are also investing in the development of new technologies like carbon capture, use and storage (CCUS) and carbon-cured concrete to further reduce emissions.

The process to manufacture cement uses fly ash. The fine black residue emitted when coal is burnt to produce power makes cement more durable. Nearly 20% of the hazardous waste India generated in 2021 was utilised in co-processing ^[5] (using waste materials as alternative fuels or raw materials to recover energy and material from them). Cement doesn’t seem to be that big a culprit after all.

The ‘it is India’s century’ narrative needs cement to achieve success - that’s non-negotiable. One can participate in that growth story by investing in companies that score well on environmental parameters, invest in achieving carbon neutrality, and have a proven track record of reducing environmental impact in a holistic manner.

Over time, ESG investing will evolve and hopefully become multi-dimensional. There is a need to stop hanging cursory no-investment tags on companies and industries, and look at the larger change they are bringing about.

Corporations will be able to make a meaningful and positive impact on the planet, while still making money for investors, when investments are channelled towards change.

The Ozone hole, meanwhile, still exists, but only opens during spring every year and closes over the summer. Research suggests it is starting to disappear and projects a return to levels seen before the 1980s by around 2050. The opportunity still exists!

Sagar Lele is a WealthBasket Curator and the Founder of Rupeeting. 

^{(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)}

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References

[1] https://www.epa.gov/ozone-layer-protection/international-actions-montreal-protocol-substances-deplete-ozone-layer

[2]

https://www.unep.org/ozonaction/who-we-are/about-montreal-protocol

[3]

https://csl.noaa.gov/assessments/ozone/2018/downloads/twentyquestions/Q19.pdf

[4]

https://www.chathamhouse.org/2018/06/making-concrete-change-innovation-low-carbon-cement-and-concrete

[5]

https://cpcb.nic.in/uploads/hwmd/Annual_Inventory2020-21.pdf