I. How the system works
My
father-in-law passed away at a hospice on a cold, dreary Sunday morning
in March 2019. His brutal two-and-a-half-year battle with colorectal
cancer reached its tragic conclusion. In his final days, in what now
feels like a movie scene in my head, he reiterated to me his advice to
travel less and focus more on family. After a quick Muslim burial and a
couple of days with my wife and grieving family members, I left directly
from a memorial event in his honor for the airport — sprinting through
the terminal with my carry-on to just barely catch a redeye bound for
Zurich. The next morning, after overdoing it with three espressos to
combat the lingering grogginess of jet lag, I took the stage at
BlackRock’s Annual Conference for Swiss Clients, suited, booted, and
sufficiently caffeinated to wax lyrical about the most exciting
growth-area in financial markets today: sustainable investing. Also
known as impact investing, responsible investing, ethical investing, and
environmental, social, and governance (“ESG”) investing, this area of
finance makes you feel good. It’s based on the premise that in addition
to getting a solid market return on your investments, your investment
also makes the world a better place. This promise is what lured me to
join BlackRock to begin with.
We
left immediately after the conference to catch BlackRock’s private
plane for Madrid, where we would perform the same rigmarole at the
Annual Iberia conference the following morning. As a group of us
trundled across the Zurich airport tarmac in a small, cramped shuttle
bus, Larry turned to me. “So now that we finally have a minute, what’s
the latest?”
The
first time I met our CEO, Larry Fink, was in 2017 in his office at
BlackRock’s Global Headquarters on East 52nd Street in Manhattan. Known
simply as Larry within the firm, he made my job interview into a natural
and flowing conversation. I instantly appreciated him as being
different from other senior financial executives I had met before.
Despite having led BlackRock from a startup in 1988 to the world’s
largest asset management firm in under 30 years, he had the kind of
healthy sense of self-doubt and fear of hidden risks that you’d expect
from someone who began their career as a bond trader, making a living
understanding the risks of lending money to others. A comment he once
made at an internal offsite for senior executives stuck with me: “It’s
not the risks that we’re talking about that I worry about. It’s the ones
we’re not talking about.” As a former bond investor myself, I knew he
was right: it’s usually the risks we’re not thinking about that creep up
and cause us problems. But his sensible caution seemed perfectly
balanced with a burning desire to be ahead of the curve against the
industry, not least by expanding earlier than competitors into growth
areas such as passive “index” investing and financial technology.
I
recall telling my wife about that first conversation in Larry’s office.
He and I had agreed early on that her birthplace, Dubai, is generally
overrated as a place to visit (doubts appeared on her face), then he
shared that the first thing he did when he arrived at the office each
morning was to call his wife (her face brightened), and finally we
discussed how BlackRock was uniquely positioned to lead the world in the
direction of a more sustainable version of capitalism (her millennial
eyes sparkled yet more).
Larry’s
leadership on sustainable investing was cemented in 2018, when in his
annual letter to the CEOs of the world’s largest corporations, this time
titled “A Sense of Purpose,” he introduced the idea that successful
companies needed to serve a social purpose. As Andrew Ross Sorkin put it
in The New York Times,
Fink informed business leaders that “companies needed to do more than
make profits — they need to contribute to society as well if they want
to receive the support of BlackRock.” It wasn’t the first time someone
had said it, but it was the first time that someone whose firm managed
over $6 trillion in assets had said it. And thus, it got the reaction it
deserved in the business world, bringing prescience to Ross Sorkin’s
prediction that it may be a watershed moment in the debate about the
future of capitalism. It was my second week on the job. The resulting
roar of approval, some vocal critics, and a general buzz amongst the
global elite was deafening. Soon after, Larry became in some ways the de
facto leader of a new worldview that purpose and profits are not in
conflict and that companies need to serve society rather than just their
shareholders in order to prosper.
“Watch
your step,” said a cheerful attendant as I stepped up onto the
Gulfstream G550 that was taking us to Madrid. There was an interesting
cast of characters aboard the jet that night in Zurich, a smaller subset
of whom accompanied us on a much longer flight back to New York the
following day. I chatted briefly with a former police
officer-turned-security official who accompanied Larry on trips abroad.
He calmly accepted his duty to take center stage amongst us boring suits
in a casual area at the rear of the jet, telling a few animated war
stories from his experiences in the aftermath of 9/11 before relaxing
back into his seat, his body language making little secret of his
preference for this cushier corporate gig.
Sitting
across from me was an executive from our London office, who, after a
few glasses of whatever was being served, embarked on a fifteen-minute
diatribe to all within earshot against the “totally clueless”
then-freshman Congresswoman Alessandria Ocasio-Cortez. “She’s a complete
idiot — she doesn’t understand anything about anything!” His English
accent was so posh that it sounded almost luxurious. Somewhere in the
front of the plane, Larry was trying to see if folks wanted to play
bridge with him. Knowing nothing about bridge I steered clear, but,
given the palpable sense amongst those present that this was a way to
get close to him, I wasn’t surprised when one senior executive
downloaded a “how to play bridge” iPhone app and began hurriedly
cramming, as if preparing for a final exam.
I’d
arrived at this exact moment following what can only be described as a
peculiar career path. After years of living someone else’s dream —
following a well-trodden path from a good school to an investment
banking job to a cushy senior role at a private investment firm — I
mustered the courage to leave the industry altogether to plow my savings
into Rumie,
an education technology non-profit I founded to bring free digital
learning to the unlucky folks on the wrong side of the “digital divide.”
The decision to jump ship just as I entered my prime earning years
thoroughly baffled some of my former colleagues. (One of them asked me
to explain the decision to him multiple times, in literally the same
words but slower, as if I were a foreign language teacher helping him
learn a new dialect.) But when BlackRock came knocking with an offer to
return to Wall Street, I knew I had to do it: BlackRock was then and
remains today the world’s largest investment firm. At the end of June,
it had $9.5 trillion under management
and was closing in on what the Wall Street Journal called the “once
unthinkable”: $10 trillion in assets. Managed well, that kind of
firepower could create far more positive impact for the world than
possible running Rumie. So I found a replacement and returned to the
world of New York finance once more.
I
vividly remember a conversation I had on the plane that night with two
senior members of our iShares team. Through its iShares brand, BlackRock
is the 500-pound gorilla in the exchange-traded funds (ETF) space, a
marketplace of low-fee investment products that mechanically track
market indexes such as the S&P 500. We had just launched a new range
of “sustainability” funds, including a series of low-carbon ETFs. It
offered investors the chance to get market-rate returns while tilting
the underlying investments toward companies with lower carbon emissions
footprints. To BlackRock, it provided the opportunity for
differentiation, including a bump in what were otherwise plummeting fees
as competition had grown in recent years.
The
how-to-play-bridge-app executive was growing agitated. “All they need
to know is that it has a lower carbon footprint — they should do it to
fight climate change!” she repeated. Nodding approvingly, the second
iShares executive, a sales guy from our Madrid office with a Mr.
Incredible-like chin and a listless demeanor, agreed: my answer was too
long and unclear. Asked a thoughtful question by a Swiss client on how
these investment vehicles actually contribute to fighting climate
change, I explained how high growth of these products might, in theory,
find some way to indirectly increase financing costs for higher
carbon-emitting companies, incentivizing them to lower emissions. “But
didn’t you see the talking points?” insisted how-to-play-bridge-app,
referring to a set of oversimplified bullet points I had not seen arrive
in my inbox of overflowing and unread emails the day before. They made
clear their view: the key to selling the product was to keep it simple,
even if that meant glossing over how it directly contributed to fighting
climate change, which was always hard to explain and at best a bit
uncertain.
I
leaned back in my seat, my mind still switching back and forth between
the quarterly sales targets that preoccupied my colleagues and the near
day’s worth of Whatsapp messages from family members that it suddenly
occurred to me I hadn’t even read yet. I reflected on my role and the
impact I was having on the world. Naturally, it seemed a bit bizarre to
be flying around on a private jet in order to hock, of all things,
low-carbon investment products. But I was nothing if not practical and
had come to believe that the emissions we could reduce with our size and
influence would far more than offset the small costs to create and
distribute these products. I sincerely believed that while sustainable
investing was not perfect, it was a step in the right direction in the
critical question of how business and society should intersect in the
21st century.
Unfortunately,
I now realize that I was wrong. If the COVID-19 pandemic has taught us
one key lesson, it’s that we must listen to the scientific experts and
address a systemic crisis with systemic solutions. Reacting instead with
denial, loose half-measures, or overly rosy forecasts lulls us into a
false sense of security, eventually prolonging and worsening the crisis.
And yet Wall Street is doing just that to us today with the far more
dangerous threat posed by climate change, craftily greenwashing the
economic system and delaying overdue systemic solutions, including those
intended to combat rising inequality and the insidious political risks
it creates. It’s clear to me now that my work at BlackRock only made
matters worse by leading the world into a dangerous mirage, an oasis in
the middle of the desert that is burning valuable time. We will
eventually come to regret this illusion.
Is Sweden the Future of Sustainability?
There
is, of course, an opposite view to the private-jets-make-sense school
of thought in fighting climate change, best represented by Greta
Thunberg. The Swedish teen activist has galvanized people worldwide with
her direct and unrelenting moral assault on an existing generation of
leaders who, in her view, cling to models of society and business that
are destroying the planet. Unlike me, her trans-Atlantic journey the
same year to speak about fighting climate change was made on a sailing
yacht. Even her detractors (some exist) concede that Thunberg is
remarkable — a force to be reckoned with. Or, as a slightly drunk guy I
met at a sustainability conference excitedly told me, just moments after
introducing himself at the cocktail hour by explaining how his white
privilege made him feel a need to give back to the earth: “She’s like
the white Malala!”
It’s little surprise that Greta and those in her age range might care so much. According to a recent study in the journal Proceedings of the National Academy of Sciences,
barely liveable hot zones may rise from 1% of the earth today to 19% by
2070, leaving billions of people with nowhere to go. It’s not that far
away: in 2070 Greta will be only 67 years old. Sylvester Stallone was
six years older than when he filmed his latest Rambo movie installment, Rambo: Last Blood (yes,
really — it came out in 2019). Judging by present energy levels, she’ll
not only be nowhere close to retirement by then but may live until
close to 2100, at which point one study
suggests higher temperatures in parts of India and Eastern China “will
result in death even for the fittest of humans.” (Rambo presumably
included.)
“We’re
so happy to have you here with us in Stockholm!” said Clara Alderin, my
liaison from the H&M Foundation, as she greeted me at a dinner the
night I arrived. I was in town to attend the final ceremonies for an
award I helped to judge, the Global Change Award, a set of cash prizes
that the H&M Foundation gives each year to five global startups
building fashion innovations for a more sustainable planet. Tall,
blonde, and sharp-featured, Clara looked exactly what I was trained by
80s and 90s North American pop culture to expect all Swedes to look
like. As she led me through a rooftop restaurant with gorgeous
floor-to-ceiling window views on either side of central Stockholm, I
noticed that she somehow managed to stop briefly and turn, make eye
contact, and smile at the end of every sentence, some of which sounded
like they were sung to me, all in perfect, unaccented English.
“I
decided to work in sustainability after I went to Sri Lanka with the
Red Cross. I think there’s this thing when you’re young and you just
explore the world outside of you… and you realize you’re a part of it.
Then I developed an interest in trade and where the products we have in
Sweden come from.” She had a certain idealism common amongst the growing
throngs of young people working in sustainability these days. As the
conversation continued at dinner, I noticed that her idealism was
combined with Swedish common sense and level-headedness. “We’ve all read
the articles online about supply chain issues. It’s very important that
big companies do the right things — it’s the only way we’ll get the big
change we desperately need.”
The
award dinner was the following night at Stockholm’s beautiful City
Hall. A lavish affair, it involved dancers, performances, inspirational
stories, and a host of other things that made us feel good that progress
was being made against laudable goals, such as the United Nations 17
Sustainable Development Goals. A few young entrepreneurs heard I worked
at BlackRock, and with Clara’s help, hunted me down to pitch their
business ideas to build a greener world. There was a bit of a buzz about
the menu for the night, and I was told, with nervous anticipation and
by more than one person, that we would be served the same dessert as the
Nobel Prize Dinner, held at the very same venue just four months
earlier.
Eventually,
Clara introduced me to two sisters from Peru, whose startup was one of
the competition’s five winners. They had pioneered an innovative
technique to build lab leather from Peruvian flowers and fruits, making
it 100% vegan and biodegradable. In rusty and broken Spanish, I managed
to agree with them that the dessert, some sort of chocolate soufflé, was
unremarkable and never really stood a chance against the hype. There
were lots of other winners, innovators, and experts all shaking hands,
exchanging information, and discussing new ideas to build a more
circular economy — one that eliminates waste and allows the continual
use of resources, as opposed to our linear and unsustainable economic
model today (make, use, dispose…).
I
grew up believing that the warm feeling of saving the world generally
only came through some level of selflessness and sacrifice, almost as a
necessary cost, in line with the images of those supreme beings who had
joined the Peace Corps and were in some faraway land working happily in
the service of others. Yet it seemed that much of that same excitement
and satisfying feeling of purpose was here too, in a chic venue with
champagne and chocolate, and without quite as much sacrifice thanks to
innovative new models of business, technology and finance. Change was in
the air, and at the center of it all it seemed that a large
multinational company was leading the way to build a more sustainable
future.
Capitalism & Basketball
In
most Western countries today, it’s hard to do anything in business and
not hear about exciting new sustainability initiatives. They often seem
to be defined most broadly as anything “good” for the world, whether
contributing to the fight against climate change, diversity and
inclusion initiatives, or philanthropic work. A host of organizations,
conferences, industry bodies, data sets, standards, certifications, and
yet more literature (both academic and marketing) has appeared in short
order to surround this growing work. Many are meaningful and produce
useful tools to help guide the direction in which we need to go as a
society. A small minority of conferences seem to be mainly feel-good
get-togethers for those looking for spiritual renewal. After the
pandemic began, Nexus Global Summit, an organization that brings
together social innovators, philanthropists, and impact investors
globally, hosted the virtual session “How to be an Impact Investor
During Covid-19” on a Monday. By Wednesday, the focus had shifted to
“Tiger King: the Untold Story” — an intimate conversation with Carole
and Howard Baskin. But while some part of the discussion around business
and sustainability seems a bit more about entertainment, most of it is
increasingly serious and draws the top leaders from not just business
but across civil society as participants and thinkers.
Much of this growing unrest is simply a recognition of what we all know to be true: we need to change our ways.
Other prominent CEOs have joined Larry in making this point more and
more forcefully in recent years. “Companies have a responsibility to use
their innovation and agility to lead on the climate crisis,” tweeted Tim Cook.
The Black Lives Matter protests turned the focus to racial
inequalities. “It is my fervent hope that we use this crisis as a
catalyst to rebuild an economy that creates and sustains opportunity for
dramatically more people, especially those who have been left behind
for too long,” said Jamie Dimon,
Chairman and CEO of JP Morgan Chase. It seems that everyone agrees:
it’s now or never, this decade will make or break us on climate change
alone, to say nothing of the risks of allowing racial and economic
inequality to continue and even rise unchecked, so we need to do
something about it.
Understanding
how the economic system works can be tricky, so let’s use a simple
analogy throughout this essay: capitalism is like professional
basketball.
In
capitalism, private firms compete with one another in fair and
competitive marketplaces to maximize profit, all of which serves us
(society) by fostering innovations and efficiency improvements that
ultimately improve our lives and wellbeing. In basketball, players
compete on a specially-designed court to score points, all of which
entertains us (fans) through a fair and highly competitive game that
fosters the best showcasing of skills and inspiration. The scoreboard
for the competition is clear and quantifiable for both: profits in
capitalism, points in basketball.
In
capitalism, the private firms that act as “players” in the marketplace
are formed as legal entities to allow groups of us to work together
toward a shared purpose, employing us in different capacities to
contribute. To keep our basketball analogy connected, let’s assume that
the players on the basketball court are robots that are controlled
remotely by groups of us fans sitting in the arena. Most of us work for
different players, helping to control their various body parts, just as
in the economy most people work in different functional areas of private
companies. Senior managers, such as the CEO, control the player’s brain
and, thus, all major decisions on how those body parts are used.
A
high-quality professional game doesn’t magically appear out of thin
air: there’s a league that helps arrange the venues, scheduling, manages
and updates the rules and regulations, and employs the referees who
enforce those rules of the game. No rules, no game — it’s as simple as
that. Similarly, nothing exists in a capitalist society without a
government to create the preconditions for private firms to compete and
safely innovate, devising rules and regulations around private
competition in a way that serves the long-term public interest, defining
laws on everything from contracts to intellectual property to data
privacy, managing court systems to handle disputes, and enforcing the
laws on a daily basis. In other words, a competitive market, like a
competitive sport, is based on rules. No rules, no game. In one case we
pay the price of admission to the arena, in the other we pay taxes.
Whatever we call it, in both worlds, we need to fund and staff the
organizing bodies without which none of this would be possible.
This
is where the basketball analogy gets interesting. Much of what people
talk about in regard to making capitalism sustainable is related to what
economists call externalities: side effects of
specific business activities that affect all of us. They can be positive
or negative. In the basketball example, think of externalities as
things that are good or bad for the crowd but don’t register on the
scoreboard. A negative externality might be when one of the players
jumps into the crowd to retrieve a loose ball and ends up seriously
injuring a few fans: in that player’s dogged pursuit of points they take
on careless risks that endanger bystanders. In our economy, pollution
is an example of a negative externality: an undesirable side effect from
an industrial process for private profit that we, the broader public,
did not choose to incur, but for which we collectively bear the
consequences. With some highly dangerous and fast accumulating negative
externalities, such as rising greenhouse gas emissions, the threat is
becoming near existential: a bit like players engaging in behaviour that
somehow damages the foundation of the entire arena. Too much of this
endangers not just the game but the venue that is required to host it in
the first place.
By
contrast, a positive externality in basketball might be Steph Curry’s
off-the-court personality: aside from any points he scores, he has the
positive side effect of being a likable role model for youth that
engages in social and charitable work. In our economy, an example of a
positive externality might be the private development of free software
that creates side benefits for others, such as Google Maps (used
anonymously).
In
capitalism, the firms who compete are all technically owned by us, the
public. This includes people who don’t think they own anything: whether
the lending that a commercial bank does with the deposits in someone’s
savings account or the investment portfolio of a pension plan managed on
someone else’s behalf, almost everyone has an indirect stake in various
private endeavors. This is a bit like saying that the robot players on
the basketball court don’t just employ most of the fans in the arena;
indeed, they were also built and are owned by the fans. Some fans own
lots of shares in lots of players, whereas others own next to nothing,
but ultimately the fans in the arena own all of the players.
But that leads to an obvious question: if society owns
them, shouldn’t we be able to control them and rein in their most
dangerous and damaging negative side effects? We wouldn’t just sit by
and watch as robot players we owned and controlled started recklessly
harming us, the fans, in a basketball arena. So how is it possible that
we allow private firms engaged in market competition to contribute to climate change, evade taxes, and a host of other activities that most of us agree are undesirable?
This is a point best addressed by Leo Strine, until recently the Chief Justice of the Supreme Court of Delaware and, per The New York Times, “perhaps the most influential judge in corporate America over the past decade.” In his view,
the CEOs and the boards of large companies in the cockpit have a role
to play, but they ultimately take direction from an even more powerful
group: the owners, meaning, indirectly, all of us. But if you don’t
remember voting the shares in your retirement accounts recently, or
picking a CEO and approving their strategy, you’re not alone: most stock
today is not held directly by mom-and-pop investors. We have “sports
agents” that act as owners of the robot players on all of our behalf.
This gives them the right to vote on hiring, firing,
and directing the CEOs who control the players’ actions on the court.
Hence, Strine’s path to a “fair and sustainable capitalism” goes right
through these sports agents: called institutional investors, these
agents wield over 75%
of shareholder voting power. BlackRock is the largest of them — the
super agent that invests more in players than anyone else, mainly
through controlling our retirement savings.
But
as our agent, BlackRock can’t just do whatever it wants with everyone’s
savings. We, the owners, trust them, the agents, to control and
supervise our property, and as such, they legally owe us what’s called a
fiduciary duty to act in our best interests. (This
is BlackRock’s first operating principle, which states that “your goals
are our goals.”) But what does it actually mean to invest someone’s assets according to their best interests — what are you looking to achieve with
investments made on their behalf? Put another way, if you’re sports
agent Jerry Maguire, what are you hiring the senior managers that
control these players for their ability to do for us?
The voice of the late economist Milton Friedman has dominated this question for the last half-century. In his seminal 1970 essay
entitled “The Social Responsibility of Business is to Increase its
Profits,” he argued that “a corporate executive is an employee of the
owners” and that their primary responsibility is to maximize
shareholders’ profits. Since profits are to capitalism what points are
to basketball, the Friedman doctrine, which has come to dominate and
define Western shareholder capitalism, has led us to spend decades
creating and training basketball players from the ground up to focus on a
scoreboard that measures one thing only: points.
And our agents, like BlackRock, who act as the owners of the players on
our behalf, have spent decades training and directing those players to
be point-scoring machines. Indeed, they’ve consistently hired the pilots
in the cockpit based on their ability to do one thing: score points.
Not only that, but we pay them directly linked to how many points they
score and give them handsome bonuses for hitting high point targets. To
deal with a competitive economy, we built winners.
That put our work at BlackRock in a curious position. We owned over 5%
of nearly all of the companies traded on the S&P 500 market index,
giving us an extraordinary amount of power. And besides our legal
obligation to do so, we had also made an explicit promise to our clients
to focus on generating investment profits. (BlackRock’s second
operating principle: “We’re passionate about performance.”) Like all
other large and successful investment managers, we wanted our players to
put points on the scoreboard. At BlackRock, our portfolio managers, who
made the actual buy/sell decisions and managed the investments, were in
turn paid based on their investment performance — which of course was
driven by profits, meaning points scored.
Unfortunately,
many things that are lucrative are also bad for the world. There’s a
reason that Exxon pollutes and Facebook tries to addict us to their
apps: it makes money. In the face of this unfortunate reality, we led
the way in popularizing a new and optimistic view: that companies with
better performance on environmental and social issues would enjoy larger
profits in the long-term, as there was no disconnect between ‘purpose’
and profits. It was kind of like saying that good sportsmanship in
basketball is not at odds with scoring points. Just look at Steph Curry! But
it was more than that: we argued that companies that embrace
sustainability early create more profit for shareholders over the
longer-term, which is a bit like saying that good sportsmanship on the
court is linked with eventually scoring more points as a result.
Larry’s
2018 annual letter made explicit the call for better sportsmanship:
“Society is demanding that companies, both public and private, serve a
social purpose.” After that letter put Larry at the center of a new way
of thinking about business, those in the sustainable finance space
awaited his subsequent letters like fans awaiting their favorite
artist’s new album to drop: in 2019, it was “Profit & Purpose,” in
which he argued that “wrenching political dysfunction” meant that
companies needed to step into the void to serve society, and in 2020 it
was “A Fundamental Reshaping of Finance,” in which he argued that
climate risks would turn financial markets upside down. This past
January he doubled down, arguing in his latest letter that the COVID-19
pandemic has presented an “existential crisis” that has “driven us to
confront the global threat of climate change more forcefully and to
consider how, like the pandemic, it will alter our lives.”
His
annual letter has become such an event in the industry that the 2019
version was spoofed by an environmental activist group, whose fake
letter and website was so convincing that London’s Financial Times
newspaper first carried and quickly retracted a story about it. Larry
said in an interview
that he feared a “severe backlash” for his 2020 letter on climate
risks. Instead, like its predecessors, it was well-received, so much so
that Bloomberg even wrote an article
on Larry’s “sartorial nod to a warming world, ” cooing that his
climate-data themed tie at Davos signaled that “his newfound commitment
to putting sustainability at the center of his strategy extends to his
wardrobe.” (To my knowledge, Greta Thunberg hasn’t yet added a sartorial
front to her war against rising emissions.)
The cloudy linguistics of sustainable investing
Sustainable
investing is a confusing area of finance that often means different
things to different people. Most of the time it means building
investment portfolios that exclude objectionable categories, such as
‘divesting’ of fossil fuel producers in an apparent attempt to fight
climate change. Unfortunately, there’s a difference between excusing
yourself of something you do not wish to partake in and actively
fighting against something you think needs to stop for everyone’s sake.
Divestment, which often seems to get confused with boycotts, has no
clear real-world impact since 10% of the market not buying your stock is
not the same as 10% of your customers not buying your product. (The
first likely makes no difference at all since others will happily own it
and will bid it up to fair value in the process, whereas the second
always matters, especially for a company with slim profit margins and
high fixed costs.) If it’s not obvious why there’s little real-world
impact, think of it this way: if your sports agent sells your interest
in a dirty player who is known for recklessly endangering fans, but that
player remains on the court (under new ownership), have you really made
any difference?
Since
the early 2000s, many investors have moved past divestment to faster
growing areas of sustainable investing, such as a newer focus on impact
and ESG (environmental, social, and governance) products, all with a
general goal of leaning toward or even creating positive and often
measurable social impact alongside strong financial returns. Green
bonds, where companies raise debt for environmentally friendly uses, is
one of the largest and fastest-growing categories in sustainable
investing, with a market size that has now passed $1 trillion.
In practice, it’s not totally clear if they create much positive
environmental impact that would not have occurred otherwise, since most
companies have a few qualifying green initiatives that they can raise
green bonds to specifically fund while not increasing or altering their
overall plans. And nothing stops them from pursuing decidedly non-green
activities with their other sources of funding. (Imagine a basketball
player letting certain socially-motivated sports agents claim credit for
their more sportsmanlike activities: could we be sure that this was
increasing their overall clean play?)
Another
red-hot area in sustainable investing allows investors to own baskets
of more “responsible” stocks, as Larry pointed out in his January 2021 letter:
“From January through November 2020, investors in mutual funds and ETFs
invested $288 billion globally in sustainable assets, a 96% increase
over the whole of 2019.” Since ESG products generally carry higher fees
than non-ESG products, this represents a highly profitable and
fast-growing business line for BlackRock and other financial
institutions. (Imagine these as an agent helping you own shares in a
group of players that are on average more sportsmanlike and may do
extremely well if good sportsmanship does indeed help score more points
in the future.) Since such products own some percentage less of
polluters and low-ESG shares than the relevant market benchmark, the
underlying ‘theory of change’ behind these tilts is the same as
divestment: trillions of ETFs that adhere to this form of ‘soft
divestment’ just aggregate into some fraction’s worth of de facto market
divestment. But because they collect baskets of shares already traded in public markets, investing in such a fund does not provide additional capital to more sustainable companies or causes.
A
series of other sustainable products across the spectrum of financial
assets — from debt to equity, public to private — have all grown in
recent years, all with similar promises to also satisfy societal needs
in the pursuit of profit, often even measuring a second “social bottom
line.” In other words, lots of sports agents have recently started
selling lots of new products, all looking for our business and offering
to get us more exposure to the “good” players and their actions — the
more sportsmanlike ones that are not just competing well but doing so
without creating a host of negative side effects for us. They even
increasingly find ways to carefully measure some of this good
sportsmanship so you feel good about how your money is invested.
The
best-known market standard for “impact investing” thus far likely comes
from the RISE Fund, a groundbreaking $2 billion impact investment
vehicle that is managed by the TPG Group, a San Francisco-based private
equity firm with close to $100 billion under management. According to the New York Times’ Ross Sorkin in 2017, Bill McGlashan, the RISE fund’s founder, “more resembles a Buddhist monk than a cigar-chomping banker in pinstripes.”
In an Icarus-like rise and fall, McGlashan momentarily ascended to near
pope status in the impact investing world — appearing complete with Buddhist prayer beads and African woven blankets at conferences where aspiring changemakers marveled at his newfound focus on social good — before being implicated in the college bribery scandal and then fired by TPG in 2019.
I
met Bill at his office in San Francisco in 2016, when I was first
starting to explore the sustainable investing industry. He had neither
reached nirvana yet nor acquired its trappings, so more resembled a
standard private equity guy in a suit — complete with the obligatory
desire to appear far more interesting than that, something made clear to
me the third time he name-dropped U2 frontman Bono, with whom he was in
the process of creating the RISE Fund at the time. McGlashan gave me a
pitch of what would later be described by the Financial Times
as his attempt to save capitalism: “We think we can take this beast
called capitalism and help to direct it in a way that is productive.”
Leaving aside whether or not the fundraise would be successful and
create real impact or not, I wondered to myself: a $2 billion fund may
be enough to bump Carole Baskin for a keynote spot at the next flashy
social innovation event, but is it enough to make a difference if the
majority of the global economy, with nearly $6 trillion in private equity alone and some $360 trillion of global wealth overall
(3,000x and 180,000x times larger, respectively), continue operating
business as usual? The RISE fund seemed like an ambitious effort that
could help, but was ultimately a drop in the bucket against a tidal wave
that was going in the opposite direction.
Addressing
that larger tidal wave seemed like the real place that capitalism could
in theory be “saved.” Accordingly, while new green funds and products
represent greater near-term profit potential, much effort in the
industry is also focused on the idea of integrating ESG considerations
into that existing tide, which for many seems to be a proxy for
overlaying ‘purpose’ onto traditional models to extract profits. Given
the boundaries of fiduciary duty, however, in most jurisdictions it can
only be done if it helps, or at least doesn’t hurt, investment profits —
meaning, per BlackRock’s first operating principle, you can’t forego
profits with someone else’s money, even if you think it’s for a good
cause. And therein lies today the glowing promise of “ESG integration”
in the industry: it offers better ways to pick out the more
sportsmanlike players, and since those characteristics are now believed
to eventually lead to scoring more points, this is a win-win for purpose
and profits both. The Principles for Responsible Investment, a United
Nations-supported initiative, has over 2,000 signatories representing over $80 trillion
in investment assets that consider ESG factors in just this way.
Unfortunately, there’s no clear definition of what that means — and much
of it is believed to be a surface-level, box-ticking compliance
activity.
In
late 2017, BlackRock revamped its sustainable investing efforts and
doubled down, hiring a talented former senior Obama administration
official as the new global head of sustainable investing and myself as
its chief investment officer (CIO). Given the more applied focus of a
CIO role at an investment firm, I led the effort to incorporate ESG
activities across all the firm’s investment activities. This was exactly
where I wanted to focus: if we were successful in showing how we could
invest trillions of dollars across different strategies and geographies
in a way that achieved strong profits while also creating better
environmental and social outcomes, the rest of the industry would follow
— reforming capitalism in the process.
In
2019, CEOs from the US Business Roundtable, which represents nearly 200
companies such as Apple, JPMorgan Chase, Pepsi, and Walmart, broke with
Friedman’s view that only shareholders mattered, advocating a new focus
on stakeholders, such as employees, communities, and the environment.
This was a bit like the NBA Players Association releasing a statement
that it was no longer enough to put points on the scoreboard: players
now committed to consider other things too, like the safety of the fans.
The New York Times’
Ross Sorkin gave us another round of applause, declaring that Larry
“deserves to be doing laps for putting these ideas into his annual
letters years ago, when some of those who signed Monday’s statement
laughed at the idea.”
We had started a trend. Unfortunately, the view from the inside was different.