The overhaul of ESG policy is primarily concerned with the public market, where a lack of regulation and government oversight of ESG ratings providers leaves important principles like transparency and consistency unenforced.
It signals an extremely positive step towards effective regulation, but the parameters for private market investment, through private equity (PE) and venture capital (VC) funds, are at risk of being left undefined and their significant investment opportunities untapped.
The opportunity on offer from the private sector
There is a common misconception that ESG investment is confined to the public markets.
In response, regulatory frameworks continue to be mapped out according to institutional investors, with a one-size-fits-all approach that fails to account for private market differences.
Whilst the public markets still command a far larger market value when compared to private markets, the private sector has enjoyed a remarkable period of sustained growth, more than doubling from $9.7trn in assets under management (AUM) in 2012, to around $22.6trn AUM.
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Add to this the recent government policy focus on unlisted assets, such as opening up pension fund investment into the private markets and the FCA’s recent review into private market valuations and it is clear that attention is shifting.
PE and VCs now present a significant opportunity for investment into initiatives that are saving our planet.
To date, 70% of VCs in Europe claim to use ESG in their investment decision making process, and yet there are still no clearly defined metrics to monitor or corroborate this.
As this shift towards ESG investing continues, it is important to recognise these investment opportunities within unlisted assets and the resulting weaknesses in upcoming policy changes.
If left unchanged…
The current disconnect between ESG regulation and the private markets will only be stretched further if provision is not made for them in upcoming policies.
PE and VC investors seeking to make truly impactful investments decisions will be left without the tools to do so and this opportunity will be left untapped.
One key challenge currently facing private investors is the availability of data that provides clarity on companies’ ESG performance and what sustainable investment products are worth channelling capital into.
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Either funds will divert their investment elsewhere or investment strategies will be guided by a tick-box exercise that fails to have any real impact.
This is further complicated by the lack of reporting requirements for private companies on their ESG performance, in stark contrast to listed companies.
Even if the private sector were to have access to ESG data, there is simply not enough information available within this data set to adequately inform investors.
To put this into context, around 300 funds were downgraded from ‘Article 9′ status, to ‘Article 8′ last year, for not following the European Commission’s renewed guidelines around sustainable investing.
The downgrade of so many was said to be the result of gaps in regulation and only around 15 funds have been moved back up since.
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If there is still such a disjointed approach for these, mostly publicly listed funds, when it comes to regulation, then it only highlights the importance of a strong framework for PE and VC funds.
The coming months will require robust consideration of current frameworks and what more is needed to accommodate the private sector within this to better support ESG investment decisions.
There will of course be aspects of current policies that are applicable to both and can be copied over to support private equity and venture capital funds, but other aspects will need to be built from scratch.
Avent Bezuidenhoudt is CEO of Earth Capital
