An interesting paper by Samuel M. Hartzmark and Kelly Shue outlining a counter-intuitive aspect of ESG investing.
The ESG consensus is that you should invest in companies that do good, and not invest in companies that do bad. If you do that, you’ll make it harder to do business for companies doing bad things (by raising the cost of capital for them). That’s then a good incentive for those companies to behave better (and therefore access more, cheaper investment).
But Hartzmark and Shue argue that this is counterproductive. If you invest in an already-good business, there’s much less scope for them to improve in absolute terms. And if you don’t invest in bad businesses, you make it hard for them to make big investments (which means they won’t create new technologies to reduce emissions), and you put pressure on them to make money in the short term in order to survive (which means they’ll do bad things like mine more coal or produce more diesel engines).
ESG investing effectively makes bad companies worse, without making good companies better – because it lacks a mechanism for rewarding companies for absolute reductions in impact.