ESG is not new, but interest in it has certainly blossomed in recent years. PWC estimated in October 2022 that globally, ESG-related assets under management (AuM) will reach $33.9T by 2026. With a projected CAGR of 12.9% – higher than the overall asset and wealth management market – ESG assets are on pace to constitute 21.5% of total global AUM in less than five years.Additionally, according to FIS’ 2023 Global Innovation Report, 60% of financial services and fintech firms globally are developing new ESG products and services. The momentum of ESG investing shows its growing appeal, but the pace of change introduces challenges. Governments, regulators and investors grapple with an array of issues, many of which relate to data, standards and definitions.
In addition to having a multitude of data types from disparate sources, there can be questions around the quality, reliability and timeliness of data and what it really means. Technology is certainly playing a massive role in addressing these challenges.
AI and ESG
Artificial intelligence (AI) and machine learning are transforming the way in which all information is processed and utilized across the financial services industry and across business more generally.
AI and machine learning make it possible to connect and process disparate data sets, which the ESG space is mostly comprised of. They also help take away the noise and save a lot of time in processing and digitizing information – as well as in standardizing and providing unique big data types of insights. We expect both technologies to be integral to any ESG solutions or services.
Transformational technology: DLT
DLT – such as blockchain – also promises a new era of transparency, integrity and efficiency and can transform the ESG sector in several ways. For instance, the structuring, issuance and distribution of green bonds is currently a complex multi-stage process. Using DLT can streamline and simplify the process by reducing the number of parties in the issuance process, permanently lowering cost. The use of smart contracts allows immediate distribution, while the certainty of DLT reduces (or eliminates) the potential for fraud. Settlement can be performed immediately by real-time or near real-time payment.
The regulatory factor
The development of these technologies is really encouraging. But we still face the fact that there is no de facto standard for calculating metrics, benchmarking, analytics, etc. As such, we see there are “many shades of green” and accusations of “greenwashing” are common. Because there's no standard for how or what to report to the market, there’s a significant amount of interpretation of what to report, how to report it, and how to frame it.
This will be addressed with upcoming ESG regulation; for example, the SEC is due to release its final ruling on ESG marketing as well as ESG standards later this year. In addition, the EU continues to strengthen current regulation and adopt new policies to help solidify standards around reporting, data collection and marketing for ESG funds. In short, the industry is moving forward. We should be prepared for more scrutiny and more ESG regulation that will help bring more standardization to the industry. As such, it will become increasingly more difficult to greenwash. This will also be the sign that the industry is reaching a more mature state.
Encouragingly, many financial services and fintech firms are already addressing the data gaps. According to FIS’ research, close to two thirds of respondents are investing in technology to improve their ESG reporting and disclosures, and 61% are investing in technology to provide more granular ESG ratings of assets and securities.
However, there are still some firms that are taking a “wait and see” or piecemeal approach to ESG compliance. They know there is upcoming regulation that will compel them to do more in the compliance space. But they are waiting to see how it all plays out before investing the time, resources and capital needed to transform and upgrade their processes.
There’s simply no time to waste: now is the time to start getting ahead of this. Regulators are moving forward, and more and more rules will come into place in 2023. We can expect that ESG claims will come under increasing scrutiny and companies must demonstrate total transparency. Investors are also increasingly savvy and want quantifiable data and information. It’s crucial for companies to be transparent and data-driven with regards to quantifiable ESG goals, benchmarks and results.
ESG is very complex, and the regulatory environment is still in flux. But technology will play an essential role to illuminate this market-moving segment as the market evolves. ESG is not going away, and the best way to gain a competitive advantage is to embrace the right technologies now.