What is ESG?
Environmental, Social & Governance
Sustainability or ‘ESG’ (Environmental, Social and Corporate Governance) concerns are becoming increasingly widespread among global capital market participants. Such issues are clearly starting to have an important impact on investors’ decisions. Exchanges, situated as they are - at the sharp edge of change due to their critical infrastructure role for the financing of the real economy, can help promote responsible business and investment behaviour and so facilitate sustainable development and transparent ESG policies and practices.
Exchanges in recent years have received a number of questions from investors relating to their sustainability practices. Thirty nine percent (22) of the respondents to the World Federation of Exchanges Sustainability Working Group Survey (SWG Survey) said they had been approach regarding sustainability and ESG issues, with 10 saying that the number of inquiries on these topics has been rising (see sidebar).
Exchanges need to respond to this heightened investor awareness of sustainability issues by ensuring the stability, fairness and transparency of their markets and at the same time nurture investor confidence by the provision of information. A number of possible ways have been suggested through which exchanges can contribute to addressing sustainability and ESG issues (UNCTAD 2014).
1. Conditional on regional and/or regulatory requirements, exchanges can encourage the disclosure of ESG information by the companies listed on their markets, whether on a mandatory or voluntary basis.
2. Exchanges or regulators can directly gather and/or compile ESG metrics submitted by listed companies.
3. Sustainability-themed financial products can provide incentives to issuers and create opportunities for capital allocation to ESG leaders or appropriate projects.
4. As companies themselves, individual exchanges should themselves consider producing a sustainability report.
5. Participation in sustainability-related initiatives and events, relevant engagements with stakeholders and collaboration with sustainability experts in their markets.
This report sets the scene for the further work which the WFE Sustainability Working Group (SWG) intends to undertake by examining the extent to which WFE members already engage with sustainability initiatives or not and what the prospects are for closer involvement by the exchanges with such projects in the near future.
This report takes into account the diverse economic and regulatory environments in which exchanges operate and takes into account that a ‘one-size-fits-all’ approach will neither be possible nor effective. In spite of this, most exchanges are keen on pushing for better ESG practices in their markets while recognising the importance of protecting these markets from inappropriate or overly burdensome regulation.
Most of the data and graphs cited in this report have been taken from a recent survey of WFE member exchanges prepared by the SWG. Selective reference is made to reports and literature on the issue, although this does not reflect the full range of the literature that now exists on the topic.
This report will be split into three sections: an introduction and consideration of the importance of ESG issues for exchanges; an analysis of survey responses and concluding remarks and potential further steps.
Why are ESG issues so important to exchanges?
Sustainability and good stewardship are essential to continuing prosperity in the years to come. This is obvious in terms of environmental sustainability, natural resources are finite and will need to be carefully managed.
Social and governance issues also affect corporate sustainability and other potential investments. Issues such as fair pay and employee turnover have a significant impact on the social environment in which potential investments are situated. The social environment can be degraded if pay structures are inequitable and/or employee turnover is high and this can undermine the operational stability of companies and so the potential for growth and more inclusive wealth creation.
For the above reasons, and many more not discussed here, there has been increased demand for sustainability disclosure (UNCTAD, 2014). Disclosure allows for more informed decision making on investments and facilitates more accurate assessment of long-term investment potential. Research suggests a positive relationship between ESG disclosure and a company’s share price (Z. Zuraidaa, M. Nurul Houqeb & T. van Zijlc;, 2014). Despite these increasingly clear bottom-line benefits of disclosure, one study shows “only 3% of the world’s large companies … and 0.04% of the world’s small companies” provide complete first generation sustainability disclosure to their stakeholders (Capital, 2013).
Exchanges are well-placed to encourage sustainability and ESG disclosure. Stock exchanges, although diverse in terms of their legal status and revenue streams (Research, 2012), provide the infrastructure for markets and as such are, in most instances, able to influence the behaviour of market participants via rule-making, implementation of national legislation, policies and regulations (Research, 2012) or by the use of other tools and incentives as may be appropriate.
The following report is based on a survey of the World Federation of Exchanges (WFE) members. The WFE has a membership of 64 exchanges of differing sizes and structure from around the globe. The results of the survey therefore cover a wide range of regulatory situations and highlight the breadth and diversity in the disclosure of sustainability and ESG metrics.