Banks account for greenwashing risk as scrutiny ramps up
With increasing fines and regulation against the overstatement of sustainability credentials, the financial sector is – finally – taking greenwashing seriously.
From fines issued to banks and asset managers over misleading investors, to court cases launched against pension funds, concerns over greenwashing in financial services are increasing – and carrying more significant consequences.
Last year, Goldman Sachs and BNY Mellon were fined by the US Securities and Exchange Commission for the mismatch between their stated environmental, social and governance procedures and their actions, while then DWS chief executive Asoka Woehrmann resigned following a police raid and allegations of misleading investors over its ESG claims.
All of this put greenwashing front and centre of the news, and has led some banks to announce they are now factoring it into their risk management.
In its annual report 2022, HSBC identified greenwashing as an “emerging risk”, which is “likely to increase over time, as we look to develop capabilities and products to achieve our net zero commitments, and work with our clients to help them transition to a low-carbon economy”.
Standard Chartered also stated in its annual report 2022 it was “integrating the management of greenwashing risks” into various frameworks and policies. Both HSBC and Standard Chartered declined to comment further.
Considering the risk
According to BlackRock’s former global chief investment officer for sustainable investing, Tariq Fancy, “the brand risk and the public backlash finally means that greenwashing is starting to be taken seriously”.
“Greenwashing has come some way but it is interesting that it has been so slow,” he adds. “[Banks’ inclusion of greenwashing risk in their annual reports] makes it clear that the market reaction and public backlash is driving this more than the regulators. It’s the public discourse that has forced the regulators’ hand.”
For investment managers and banks with asset management divisions, reputational risk is currently entwined with regulatory risk as the second phase of the EU’s Sustainable Finance Disclosure Regulation and the UK’s sustainability disclosure requirements come into effect this year.
For banks’ lending operations, greenwashing risk is as much about brand as it is to do with disclosures and the financial impact of climate change. But with fines currently only totalling a few million, the financial risk for greenwashing in either investment management or lending remains small, notwithstanding the long-term risk for stranded assets.
According to Emmanuel Volland, senior director at S&P Global Ratings: “The increased external pressure from regulators, non-governmental organisations, activists, investors and customers on financial services firms is part of a bigger picture” – particularly as climate-related litigation and penalties increase.
But even then, he points out that, in the past, accusations levelled against banks have not tended to lose them customers. “Maybe customers’ expectations of banks’ behaviour are lower than for other companies. In the past, when banks were hit with heavy anti-money-laundering related fines, there was not that much deterioration on their franchise, especially from retail customers,” Volland says.
But when it comes to green bond issuance, banks are expected to follow guidelines and principles laid out by organisations such as the International Capital Markets Association and the Climate Bonds Initiative. In February, the EU came to a provisional agreement on a standard for green bonds, which raise capital for new and existing projects with environmental benefits.
Robin Creswell, managing director at Payden & Rygel, a bond-focused asset manager, says greenwashing is a “two-sided coin” for banks and asset managers regarding green bonds. “Banks sit on one side of the capital markets, which issue securities, where they are at risk if a bond doesn’t do what it says on the tin. On the other side, there are asset managers who fastidiously look at the data to assess whether the security they are buying is aligned with the objective of the account they’re managing,” he adds.
Downgrading of funds
Gregory Yianni, senior manager for ESG services at JTC Group, says this year is something of a “guinea pig year” for SFDR, as investment managers come to terms with how the regulation is enforced and what its consequences are. “Previously there was less caution. After SFDR came in last year, [asset managers] started downgrading funds to Article 8 from Article 9, while banks became more aware of the fines that they could be hit with,” he says.
He also says that green regulation will only intensify and with more regulation comes more risk for misrepresentation of fund disclosures, unintentional or otherwise.
He considers the challenges of disclosing biodiversity factors. Details on the Taskforce on Nature-related Financial Disclosures are still being hashed out, while the UN, a number of NGOs as well as UK politicians have been calling for the framework to become mandatory. Piecing together regulation that would mandate TNFD would be challenging enough, notes Yianni, but "it may be harder still to implement it,” as biodiversity is an even broader term for financiers to contend with.
The UK has already mandated reporting under the Task Force on Climate-related Financial Disclosures framework for listed companies and asset managers.
The extent to which tighter controls over the definition of certain capital flows translates into a “real world impact” is still up for debate, according to Fancy.
“Funds now actually say the right ingredients on the tin but it’s still not the medicine we need,” he says, likening ESG investments’ ability to mitigate the effects of climate change to using wheatgrass to treat cancer. “All we’re doing now is making sure that the wheatgrass doesn’t lie about its ingredients; it’s still wheatgrass.”
Fancy says companies exaggerating their green credentials is a far bigger problem for the global economy beyond financial services, alluding to a 2022 survey by the Harris Poll for Google Cloud of nearly 1,500 executives across 16 countries.
This found that 58 per cent of executives think that “green hypocrisy exists and their organisation has overstated their sustainability efforts”. Those in the financial services and logistics sectors had the highest admission, at 66 per cent and 65 per cent respectively.
“Greenwashing still exists throughout our economy, from fast fashion to laundry detergent. We’re at the tip of an iceberg that is going to take a while to clean up,” he says.