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BlackRock to curb ESG 'social justice' proposals with its voting power this proxy season and embrace big oil, claiming Ukraine war, Russian embargo demand climate goals reset

The New York City manager of $9.6 trillion races to redefine -- and resuscitate -- reeling 'ESG' after the Ukraine war exposed perils of charging a premium fee to contain free market forces.

Wednesday, June 1, 2022 – 3:22 AM by Oisin Breen
Larry Fink: I don't want to be the environmental police.

Brooke's Note: ESG has been around for decades as a way for pensions like Calpers to flex muscles and a way for a fringe group of retail investors to express their deeps. Then along came the mainstreaming of ESG with BlackRock arguably its voice -- and extra effective because of its reputation for being all about returns and inflow. Both alpha and asset inflows rocket-boosted the category the past few years because ESG portfolios were loaded with high-flying green tech stocks and purged of moribund fossil fuel, tobacco and weapons stocks. Then, the Putin attack on Ukraine suddenly broadsided the ESG world as do-good stocks suffered and do-bad stocks -- especially fossil fuel shares -- became coveted non-correlated holdings. BlackRock -- already fending off criticism that it holds way too much proxy power -- has rebalanced its algorithm for how it will vote to one less green at face value. That move toward more nuanced ESG proxy voting is maybe good for investors and the world (at least short term) but also looks disingenuous given its timing. That tension is what makes this article by Oisín Breen especially interesting. See: Suddenly Vanguard, BlackRock, State Street not only have the assets but the power of ESG mandates, which make them a growing threat to shareholder democracy, critics say.

Update: The day after this article was first published, BlackRock CEO, Larry Fink, 69, doubled down on his firm's new cold water attitude to some of the more radical better world promise implicit in the ESG movement, in a Bloomberg Television interview, Jul. 2. Quotes from the interview have been added to the article below.

BlackRock says it will use its considerable voting power during proxy season this year to quash "social justice" ESG proposals in favor of those that focus on "long-term value."

Kellen Parker
Kellen Parker: The degree to which BlackRock was ever really an ESG leader is up for debate.

The New York City manager of $9.6 trillion is taking a series of steps -- broadly unthinkable a year ago -- to save its burgeoning ESG franchise -- and maybe sustainable investing -- by keying off Putin's war in Ukraine to put lipstick on oil and gas stocks.

"I don't want to be the environmental police. It's wrong to ask the private sector to tell the entire society we have to move forward," says CEO, Larry Fink, in a Bloomberg Television interview, Jul. 2.

Given BlackRock's significant role in the ESG market, the moves are calling into question the very nature of ESG investing, an always fuzzy concept that has been the subject of debate for years. Now that debate is gaining renewed steam. See: How BlackRock made ESG the hottest ticket on Wall Street.

"The boundaries of sustainable investing are being redefined in real-time," says Daniil Shapiro, associate director for product development at Boston consultancy Cerulli Associates, via email.

Critics say ESG is underperforming since Putin's attack on Ukraine hence it -- and BlackRock by participating -- are breaking implicit promises to investors both about what good returns it can deliver, but also what net good it can deliver to the people and the planet.

"Today’s capitalism no longer embraces the Machiavellian view that the ends justify the means ... the so-called shareholder capitalism of Milton Friedman," says Dennis Hammond, head of responsible investment at direct indexing vendor, Veriti, via email.

Climate clouded

BlackRock spelled out its intentions in a new report from BlackRock Investment Stewardship (BIS). which focuses on assessing the quality of management and corporate governance to guide the company's considerable proxy voting power. 

Daniil Shapiro
Daniil Shapiro: The boundaries of sustainable investing are being redefined in real-time.

The May stewardship update states that BlackRock anticipates using its proxy power to torpedo at least 53% of environmental, social and governance (ESG) shareholder resolutions this year because they do "not promote long-term shareholder value."

"We are [un]likely to support [resolutions] that ... are intended to micromanage ... this includes ... call[s] for changes to a company's strategy or business model ... [or] matters that aren't material to how a company delivers long-term shareholder value," it states.

It particularly zeros in on climate-related shareholder proposals coming to a vote in 2022, which it claims are more prescriptive or constraining on companies than previous years' proposals. 

"The degree to which BlackRock was ever really an ESG leader is up for debate," says Kellen Parker, director for sustainability and data insights at New York City ESG direct indexer Ethic, via email.

Yet critics of BlackRock's decision to veto ESG votes are making a fuss over nothing, according to Fink.

"We're almost done with proxy season ... we said we're not going to be as proscriptive ... [and] we're almost at the same level [of support for ESG resolutions] as last year," he told Bloomberg.

Different scope

In the recent Bloomberg interview, Fink also reiterated BlackRock's stance on Scopes, the international greenhouse gas accounting standard, namely that it refuses to support growing investor support for the most onerous of the Scope accounting standards, Scope 3.

"I have no problem doing Scope 1 and 2 ... [but] Scope 3 is forcing big companies, banks, and asset managers to be the environmental police, and I've been loud, and spoke at [climate summit] COP26, [where] a lot of people got angry ... we maybe disagree on the speed at which we can fix this [climate crisis]," he said

"There are some strong merits, but energy companies [et al.] ... they're moving with deep understanding ... there's not an energy CEO that doesn't believe we have climate risk ... [and] we're not going to support Scope 3 at this time," he adds.

If a company agrees to report Scope 1 emissions, it need only report on its fuel combustion and fugitive emissions; Scope 2 also entails reporting on purchased electricity, heat, and steam.

In contrast, to adhere to Scope 3 standards, reports must track emissions produced through purchased goods and services, business travel, employee commuting, waste disposal, use of sold products, up-and-downstream supply change distribution, investments, leased assets, and the actions of linked franchises.

War, what is it good for?

Hammond says BlackRock may appear cynical, but the Ukraine war really does demand a reset on climate goals. 

"Climate bulls have been forced to consider retrenchment of their positions, at least for the short term, in order to patch together workable plans for the continuation of needed energy supplies.

RIAs Dodge a Bullet 

RIAs, who were slow to embrace the ESG trend, won't have to answer for much ESG overreach.

Bigger fees, less transparency, questionable track records and elusive elevator pitches have held them at bay. 

In general, some 71% of advisors bypassed the ESG bandwagon. While 29% of RIAs do invest in ESG strategies, they have allocated just 11% of their client assets, according to Cerulli data.

BlackRock's biggest competitor Vanguard Group, can also watch the upheaval from the sidelines, to a degree.

The Malvern, Pa.  asset management giant keeps ESG funds on its shelves but with no pretense about delivering non-financial value.

"We have no agenda beyond shareholder return ... we are not a solution to a societal challenge that needs governmental action," Vanguard global head of investment stewardship, John Galloway told InvestmentNews, in April.

Yet ESG funds still make a compelling case based on longer-term data.

Six out of 10 ESG funds posted higher returns than their benchmarks between 2010 and 2020, according to Morningstar.

"The alternatives -- rolling national blackouts or energy rationing -- seem even more costly," he explains.

BlackRock makes clear that its shift on climate-related shareholder proposals is directly connected to the war in Ukraine. 

"Companies face particular challenges in the near term, given under-investment in both traditional and renewable energy, exacerbated by current geo-political tensions," its stewardship report states. 

"Reducing reliance on Russian energy in the wake of the invasion of Ukraine will impact the net zero transition that is already underway," it continues.

"This set of dynamics will — at least in the short- and medium-term — drive a need for companies that invest in both traditional and renewable sources of energy and we believe the companies that do that effectively will produce attractive returns for our clients," it concludes.

In short, energy insecurity has jumped ahead of irreversible Earth warming as a concern in the face of war in Europe.

At the same time, the situation is also fostering the ESG goal of a long-term shift to renewables, the report notes.

ESG bulls need to get real about how much leverage investors have to shape innovation and change by stock and bond selection, says Harold Graham, CEO of ESG data company, Social Impact Investment, via email.

"The majority of ESG principles are simply that, well intentioned ideas," he explains.

Those ideas come with a hefty price tag, too.

Paying the piper

ESG funds charge an average of 0.65% in fees, according to Morningstar's latest data. In contrast, the average non-ESG ETF levies fees of 0.41%; active funds charge an average of 0.62%; and passive funds cost 0.12%, according to Morningstar's recent fund fee study.

John Galloway
John Galloway: We have no agenda beyond shareholder return.

Yet ESG funds are taking a beating this year. Of 556 ESG funds tracked by Morningstar, 552 are down in the year-to-date, and 66%, or 348 are underperforming the non-ESG indices they track by an average of 5%.

Including outperforming funds, ESG funds also trail non-ESG peers, albeit by 2.67%, according to Morningstar data, accurate to April 30.

Overall, domestic ESG fund holdings sit somewhere between $321 billion (Morningstar) and $400 billion (ISS Market Intelligence), or roughly 1.4% of the total held in domestic funds, not factoring in recent market depreciation.

Underperformance is also hard for ESG investors to swallow given the 20 basis points premium they pay on average for ESG funds than comparable non-ESG funds.

Undimmed support

Market volatility this year sent BlackRock's AUM below the $10 trillion mark it crossed for the first time in late 2021.

Dennis Hammond
Dennis Hammond: Capitalism no longer embraces the Machiavellian view that the ends justify the means.

Many domestic ESG funds with $100 million under management also hold more than 1% in Russian markets, including four BlackRock ESG funds, which average 2.6% exposure. 

In that regard, it should come as no surprise that BlackRock is shifting its emphasis "to create long-term durable financial performance," 

It says the move is "consistent with its fiduciary duty as an asset manager" yet every dollar of BlackRock's $9.6 trillion AUM that it can convert to ESG yields tens, if not hundreds of millions in extra fees.

In the first quarter of 2022 alone, BlackRock ESG funds pulled in $19 billion, 16% of its overall $114 billion of quarterly net inflows.

BlackRock's stewardship team contends that its long-term support for ESG is undimmed, according to the Financial Times.

The company will continue to support proposals, just as long as they take into account what is possible, over what is ideal, the paper reports.

Weighing risks

BlackRock is still playing that long game.

Holly Testa
Holly Testa: Proposals often expose long-term systemic risks. 

"[ESG] isn't a straight line ... most investors aren't doing this for a quarter, or even a year. These are long-term views," Larry Fink, BlackRock CEO, told Barron's, in April.

But one person's radicalism, is also another's common sense, says Holly Testa, director of shareowner engagement and proxy voting manager at ESG RIA First Affirmative, via email.

"These proposals often expose long-term systemic risks that companies are not adequately addressing, [and]  investors focused on individual company performance rather than portfolio level systemic risks may not be considering .

"Climate proposals are the perfect example of this. Investor support has grown, I think, as the risks become more apparent."

"Do we respond to this crisis by transitioning even more quickly to a renewable energy economy, or do we make investments in fossil fuels that risk compromising not just future returns, but our ability to maintain a livable climate?" she asks.

Drawing a line

BlackRock also contends that the Securities and Exhange Commission (SEC) has opened the floodgates on environmental and social shareholder proposals "of varying quality" through revised guidance issued last November. 

Harold Graham
Harold Graham: ESG is a series of ideas.

The guidance broadened the scope of permissible proposals that address “significant social policy issues."

In number alone, ESG resolutions have increased by a fifth this year, according to analysis obtained by the Financial Times.

"Investors, including BlackRock, are increasingly inclined to support the management proposal, as the company is demonstrating commitment to act by setting out their business plan for how they intend to deliver long-term financial performance through the energy transition," BlackRock's stewardship report states.

The more radical proposals it singled out call for the cessation of financing for traditional energy companies, decommissioning the assets of traditional energy companies and directing climate lobbying activities, policy positions or political spending.

Yet Parker says BlackRock is drawing a line in the sand against purely symbolic gestures, then calling it pragmatism.

"Most of the ESG proposals we see are far from radical -- many are simply focused on obtaining greater transparency into companies’ risk exposures ... Most are non-binding and provide leadership with marked leeway," he explains.

Existential chaos

The ESG industry faces another dilemma beyond shareholder resolutions or market performance, namely the term itself is loaded with contradiction.

Alyssa Stankiewicz
Alyssa Stankiewicz: Tensions exist.

"Tensions exist between different interpretations of ESG, and material ESG factors differ depending on different industries," says Alyssa Stankiewicz, a Morningstar ESG research analyst, via email.

Environmental issues, such as climate change, can also run counter to social imperatives like energy security, but governance issues can stifle both, given the need to do business -- particularly for fuel -- with despotic regimes.

"Even companies having positive impacts in one area are likely to foster less desirable impacts on other issues," says Parker.

ESG's amorphous nature makes it hard to take the movement seriously, too, says Graham.

"ESG is a series of ideas with no concrete definitions in materiality, therefore, until outcomes have been recorded and reporting requirements have been instituted, any investment is an ESG investment," he explains.

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June 1, 2022 — 1:55 PM
ESG is not a money making addition to investing. It is investing to influence corporate behavior. It is investors using their money to punish corporate behavior they dislike. It's real.
Randy Bullard

Randy Bullard

June 2, 2022 — 3:27 AM
Great piece Oison.
Oisín Breen

Oisín Breen

June 9, 2022 — 3:11 PM
Ach, thank you Randy :) Very kind of you good sir.

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