AMY WEST: Welcome to Viewpoint, a TD Securities podcast. Listen in as we draw perspectives from a variety of thought leaders on key themes influencing markets, industries, and the global economy today. We hope you enjoy this episode.
Welcome to episode 25 of Viewpoint, a TD Securities podcast. I'm your host, Amy West, Managing Director and Global Head of ESG Solutions at TD Securities. I'm joined today by two of my esteemed colleagues. John Miller is a Managing Director in ESG and Sustainability Policy at TD Cowan. And Carl Elia, Senior Portfolio Manager of Global Infrastructure Investments at TD Asset Management. Thank you both for being here today.
CARL ELIA: Thanks for having us.
JOHN MILLER: Thank you, Amy.
AMY WEST: Gentlemen, I'm excited to get your perspectives on the current state of ESG. A few years ago, we were talking about ESG as the cure all, be all. It was the best thing since sliced bread. We saw a wave of company commitments, net zero targets, and a boom in sustainable debt and equity fund announcements.
But recently, between global conflicts, political headwinds, and inflation, just to pick a few, it feels like ESG has had quite a fall from grace. Now we're seeing companies afraid to even use the term ESG. And while perhaps not changing approach, they're saying "sustainability" in an effort to distance themselves from what has become an increasingly polarizing acronym.
So let's discuss the question that's on everyone's mind. Is ESG as we know it dead? John, sitting in Washington, DC, you offer a unique perspective. So why don't we start with you? Why has ESG become such a hot-button issue?
JOHN MILLER: Thanks, Amy. that's a great place to start out. I think it'd be useful to set a little bit of a baseline or context in place here before we dig into that. So in the US, both parties, Republicans and Democrats, they both broadly found that there's a level of success leading to what we generally define as outrage politics. Both parties, they found success raising money and motivating their base by leaning into cultural issues.
So how does that translate into the wider ESG and sustainable investment space? Again, a core constituency of the Republican Party, they remain broadly skeptical over the science behind climate change. And in an August 2023 survey from NPR, NewsHour, and Marist, nearly 75% of acknowledged Republican voters believe that the economy should be prioritized even at the risk of further climate damage. Plurality of republicans, more than 40%, said that climate change won't have a serious impact on their communities at all.
So what happens when a Republican voter or an elected Republican representative who carries these specific views on climate change discovers there's a growing trend in the asset management space towards the consideration of environmental and social risks? The spoiler alert here is that it's not a calm, nuanced response.
I think it's important to put yourself in these individuals' shoes and look at it from this perspective. If your politics is such that you truly do not believe that climate change is a risk, the only framework where you can see the growth of ESG investing taking place is a hijacking of the financial system by progressive liberal policy.
So that sets the stage for where we are today-- the state-level actions to ban asset managers from considering ESG factors, state-level attorney general seeking to bring antitrust investigations against shareholder coalitions, and on and off again hearings and markup at the federal level in the US Congress discussing these issues within the context of the SEC and overall federal guidelines for ERISA investments.
AMY WEST: So John, I think it's interesting that you're talking about just what feels to be an enormous wave of politicization around ESG. So I have to ask, looking at a federal election roughly a year away, is it here to stay? Is it going to get worse? Or is it going to get better?
JOHN MILLER: Yeah. I mean, I think, unfortunately, the question has an answer that's two part and almost totally binary. So it's a yes, and it's a no. So why yes? I think, yes, the politicization is certainly here to stay, specifically in the US. If we circle back to that first question, there's a range of valid, deeply held political views in the US on topics ranging from how to combat climate change, how to best pursue diversity and social inclusion, and what is good corporate governance.
Republicans and Democrats have vastly different outlooks on these topics and take equally differentiated views on the role of government and tackling these issues. As long as that gap persists, there's going to be a level of politicization in and on ESG in the US. That will play out in the regulatory space, where measures are used or not used to control emissions, and the legislative space, where, Congress will either act or not act to subsidize select behaviors, generally through the tax code.
There is also the no side to this, too, as well. And so no is a little bit more specific. And here, I mean no in the context of the growing press on asset managers as a vehicle for pushing progressive liberal policy, which is what we've been hearing from Republicans over the past 18 months. And I get there because despite the time, effort, and money the elements within the Republican Party have spent on trying to elevate ESG as an existential risk to the US federal republic, it just doesn't really seem to be resonating as a motivating factor for the base.
And there's a number of reasons here. Some of it's tactical in the approach that we're taking. And some of it's much more nuanced. But at the highest level, really, the absence of name recognition in this space makes it hard and very difficult for Republicans to assign blame to a specific, observable entity.
But again, we simply haven't seen ESG rising as an issue motivating Republicans or Democrats to vote. So where do we end up? We kind of end up in a steady state, with Republicans, Republican-controlled states leaning towards maintaining their bans on ESG factors and state pensions and to block select financial institutions from participating in state services. Going forward, a Republican president could certainly attempt to make some change to the SEC and take a very different, much harder line on shareholder resolutions. And it would also certainly walk back any new ESG-related disclosure requirements that did come to the marketplace.
AMY WEST: Totally fair. But before we go there, I'd actually love to dive in a little bit on some of the policy drivers here because despite the criticisms of ESG, we've seen the IRA. We've seen BIL. And they've poured government support in an unprecedented way into decarbonizing the economy. And I'm listening to you, and it sounds like this is very politicized. It's very polarized. But do you expect it to be rolled back?
JOHN MILLER: Yeah. It's a it's a key question and concern that we're hearing from our clients frequently, effectively every single day at this point. I don't want to get fully sidetracked here. But I think it's important to emphasize what the BIL, or Bipartisan Infrastructure Law, which was signed into effect in 2021, and the Inflation Reduction Act, or IRA, of 2022 are and what they are not.
So yes, both acts do have climate implications. But they are about as far removed from traditional command-and-control climate policy. And they are certainly not carbon taxes. The Inflation Reduction Act is focused on industrial policy, manufacturing, and jobs, jobs here in the US, with a focus on energy transition industries. But again, it's about that policy, manufacturing, and jobs.
The Infrastructure Law, or BIL-- you unpack that, and more than 500 billion of it will be sent from the federal government to states to decide how they want to use in the infrastructure space. So these aren't very, very hardline climate policies that, to your point, would have a lot of volatility risk under a Republican-led administration here in the US.
This might seem like a nuance that only matters in DC. But it does have implications going forward because it allows policy that has a climate implication to become more bipartisan. So as we look forward, certainly there is the possibility of a Republican outperformance in 2024 leading to a unified Republican-led government. And by that, I mean a Republican president, a Republican-led house, and a Republican-led senate.
In that outcome, there would absolutely be changes to the policy framework put in place by the Biden administration. But to be clear, that doesn't mean a full teardown of the BIL or Inflation Reduction Act. And why not? Because of what we've been mentioning, the fact that industrial policy, manufacturing policy, and jobs here in the US. That's been embraced by both wings of the populist element in the Democratic and Republican Party. And a repeal of those wouldn't really make sense.
AMY WEST: That's something that I actually think is going to continue to be an area to watch and probably really relevant to a lot of our clients. So we might need to have you back as we get into next year to delve into that a little bit more. But I want to actually now jump back to something you said, which is a little bit around the SEC regulations.
For those of us active in the market, we've been waiting and waiting and waiting, it feels like, to see what happens next with the SEC-proposed climate disclosures. And these were initially, I believe, supposed to be adopted in April of 2023. It's November now, and we still haven't seen anything. So I'm curious. What is causing the holdup? Do you expect to see action any time soon?
JOHN MILLER: We're still remaining of the view that the SEC under Chairman Gensler is committed to moving forward, not only on the climate risk disclosure rulemaking, but the rest of the suite of ESG rulemakings that he's proposed. So where are we now on the climate-related disclosure?
As you mentioned, the draft rule came out in March of 2021. The initial timeline was spring of 2023. Subsequently, it's been pushed out to October. That was obviously missed. What's happening? What's with the delays?
One is much more strategic. And that is that the SEC is just under an intense amount of pressure under this rulemaking. Much more tactically, Congress has yet to pass a fiscal year '24 budget. That's kind of the story here in DC. But this matters for the rulemaking process because Republicans are very much making the SEC's rulemaking agenda an issue as part of that budget process.
So this is something that we do expect to see bleeding out into Q1 of next year. A hard stop does come into place in the May, June timeframe. This will be an important backstop around the concept of a Congressional Review Act calendar. So there's a ton of nuance on the Congressional Review Act, or CRA. But it would be a vehicle for Republicans to nullify a final action if they were to outperform in the 2025 election cycle. So again, May, June is kind of a backstop for when the SEC would need to finalize a rule.
AMY WEST: Perfect. I actually think that's really helpful because it's been an outstanding item on our side for quite some time now. But Carl, I want to pivot the discussion and also make sure we're getting your views as an investor. You're a portfolio manager for a large, successful infrastructure fund. So you're the perfect person to ask about ES&G factors and, really, how you're viewing them. Are these nice-to-haves for marketing? Or are these really driving your assessment of material financial risks? So maybe just ask to start, how does your team look at and incorporate ES&G factors?
CARL ELIA: Sure. Thanks, Amy. So when we think about ESG factors and how we integrate ESG, we think of it alongside every other pillar of our due diligence in how we underwrite and manage assets on ongoing basis. Whether it's legal or technical due diligence, we see ESG factors as potential risks for the assets and opportunities as well.
And so we've worked with a third-party consultant for a number of years now on ESG. Just like we do on the legal side or technical hiring engineers to look at the specs of an asset, we hire this ESG consultant to help us review elements that are appropriate for that specific asset, whether it be greenhouse gas emissions or health and safety policies and practices and measurement, to ensure that we're capturing that when we invest in this.
AMY WEST: That's really interesting. It's a good question because we often hear that considering ESG factors means lower returns. Is that the case? Is that what you're seeing?
CARL ELIA: I think the fear of that comes from two areas from clients. One is exclusion. If an investor is going to exclude a certain area of the market, are you leaving returns on the table? At TD Asset Management, our approach to ESG has been about engagement and not exclusion. And so we're always looking for the best risk-adjusted returns.
Now, does that mean we're going to buy a coal plant in a jurisdiction that's retiring coal plants? Probably not, because our mandate is very long term. So it's about long-term risk-adjusted returns for us where we may not make those investments.
The other side of it is the integration of ESG factors and implementing certain ESG practices. Is there a cost to that? And is that bringing down the return? Because with direct private infrastructure, you very much are an active owner. And you are implementing policies right down at the level of the organization.
And I'd say, here's where taking a methodical approach to ESG, understanding the nuances of the specific asset, and implementing policies that are appropriate for that asset are important. Expecting to get to net zero with every asset in every jurisdiction might not be appropriate. We've seen jurisdictions, even Europe, come back and say, gas is a green fuel.
And so we have to be cognizant of the jurisdiction that it's in. What are the implications? Here in Canada, we have a carbon tax. So that's very much something we take into consideration with every asset. What does the carbon footprint look like? Is there a path to reducing that? Because that can have materially positive impacts. So it's not just about lower returns, but there's opportunity for higher returns as well when managed appropriately.
AMY WEST: That's great to hear because I think that is something that comes up a lot and is on investors' minds. So John talked a little bit about SEC disclosure rules, obviously a lot of focus on disclosure rules in the past few years, whether it's the US, Canada, or Europe. How is the regulatory environment in globally specifically-- I'd be curious to your views-- impacting your business?
CARL ELIA: Yeah. I think right now, it feels like a little bit of a moving target in that a lot of regulators are trying to wrap their heads around this and create definitions for this that should make ESG practices more transparent and avoid things like greenwashing.
What we've seen is a continually evolving environment. Probably the most advanced is in Europe with this Sustainable Finance Disclosure Regulations, or SFDRs. And they've created three levels-- Article 6, Article 8, and Article 9-- and specific definitions around them.
Now, those definitions are still being interpreted and refined, which makes it difficult from a disclosure perspective to understand exactly where you're going to fit and how that's going to evolve and change over time and how different regulators in different areas are going to interpret these things. So it has been a work in progress, for sure. I think going forward, Ultimately, it's going to benefit the clients in that there is going to be more transparency. And I would think eventually, there'll be a convergence globally on certain definitions and how funds present themselves in and around ESG disclosure.
AMY WEST: I agree. I think there's an opportunity here. So hopefully we see a bit of a clean-up exercise and we land in a better space. And I think that will actually benefit the market broadly.
I do want to ask the question. I think there are endless criticisms of ESG. And since we are talking about it on podcast where we're discussing, is ESG dead, I'm curious your viewpoint as a portfolio manager. Do you see how ESG can drive opportunities?
CARL ELIA: Yeah. I think so. From our fund's perspective, ESG is about being diligent with risks and opportunities for the assets and managing them appropriately. I think as definitions come down around funds, funds are going to specialize. And that will create opportunities where capital may flow to one area of the market or another, whether it's pure ESG and focusing on climate change or the other side of it and maybe taking that proverbial last puff of an asset that will be retiring and getting high returns out of that.
I think there will be opportunities for funds to specialize. For us, it really is about integrating that ESG and ensuring the best risk-adjusted returns. And I think if you can do that appropriately, there are definitely opportunities. With changing regulation and risks that we take, managing elements of ESG appropriately provides opportunities for our assets and does help us mitigate risk.
Here in Canada, we've seen increased forest fires. And regardless of your politics or your belief in climate change, just having prudent practices if you own an asset that's in an area that's seeing an increase of forest fires-- that's what ESG is about to us. It's about those prudent practices and managing that risk and looking for opportunities within the assets.
AMY WEST: I love that point. I think that I would echo that sentiment. ESG is not perfect. I think it is far from perfect. But an interesting overlay and an interesting perspective there, so I appreciate that.
I want to wrap up this discussion by coming back to our original question. Is ESG just another fad waiting to fail? And I'd love to get both of your perspectives as we get to the tail end here. Where do we go from here? And maybe we could start with you, Carl. And then, John, I would love your views, too.
CARL ELIA: Yeah, sure. I think ESG-- maybe it changes its form in terms of the name we call it. Maybe there is backlash around certain elements of it. I think the regulators are starting to catch up to it. Definitions are being refined. And so I don't think it is another fad.
Will we call it something else in 10 years? Maybe. But when you think about, underlying it, the social, governance, and environmental issues that impact especially an infrastructure asset that you want to hold for 30 years, it is just a prudent practice to understand what those risks and opportunities are.
And so I think it is more, where do we go from here? I think it is more refinement of the regulations around how we talk about it as investors and how we implement it and maybe bifurcation of what asset managers are actually doing within ESG or climate change or specific areas of ESG.
JOHN MILLER: I think everything Carl mentioned there makes a lot of sense. The question of changing the name has come up in multiple forums recently. So I feel like there is some growing interest in that.
But look, to be clear, asset managers are still asking ESG questions. You can frame it however you want. Don't use that acronym, but they're asking those questions and will continue to press on companies around these issues. It's now a basic element of long-term risk management and opportunity capture. I think that's an important fact that's often lost in these forward-looking considerations.
The second point and last point for me, I think, would be that the policy framework in the US is just going to remain volatile. I just don't see a near-term pathway to a steady state that's going to be more volatile toward than other market places, specifically what we're seeing out of the EU and Canada to the north. That certainly introduces risk for investors but also significant opportunities in this space. So lots happening.
But again, it's becoming much, much more baseline in the questions being asked and how they're engaging with corporates from the investor side. And then the US framework is just going to be the US framework. We're heading into another election cycle. Expect to hear a lot. And there is a pathway for more risk.
AMY WEST: Thank you both for sharing your insights today. Listening to you, it's clear that ESG is not dead, and it's not going away. It'll be interesting to see how this market evolves and how we incorporate environmental, social, and governance factors into decisions and also how we can leverage them to create opportunities.
Thank you to our listeners for joining our episode of Viewpoint today. Please tune in next time.
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