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Demonstrators take part in a Fridays for Future march during the UN Climate Change Conference, in Glasgow, Scotland, on Nov. 5.RUSSELL CHEYNE/Reuters

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Two buzzwords feature in virtually every event, interview, news release, bit of commentary and protest at the COP26 climate summit in Glasgow: “net-zero” and “greenwashing.” The more you hear about the former, the more you hear about the latter. There seems to be a direct correlation between the two.

“Net-zero” refers to the commitments made by most countries, and many big companies, to achieve carbon neutrality by 2050. “Greenwashing” refers to any efforts by countries and companies to exaggerate their environmental credentials – the greener-than-thou approach.

At COP26, which began on Sunday, both terms have been used with abandon. Greta Thunberg dismissed the entire event as the “Global North greenwash festival.”

Greenpeace accused Australia of “greenwashing” after determining that three-quarters of the Pacific-region aid projects promoted by Canberra as “significantly focused” on climate adaptation did not even mention “climate.” At the same time, Larry Fink, the CEO of BlackRock, the world’s biggest asset manager, trotted out the “greenwashing” accusation at the Green Horizon Summit, which was taking place alongside COP26. He said the recent off-loading of coal, oil and gas assets by Big Mining and Big Oil, often to private companies, would do nothing to clean the planet.

  • Youth activists shout slogans as they march to protest against climate inaction on the sidelines of the COP26 UN Climate Summit in Glasgow.BEN STANSALL/AFP/Getty Images

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He is right. Expelling a dirty business such as a coal mine may reduce the carbon footprint of the company doing the selling, making it more attractive to investors who follow environmental, social and governance (ESG) guidelines. But it does precisely zero to reduce overall carbon emissions, since the buyer keeps operating the mine. Mr. Fink called such disposals “the biggest capital markets arbitrage ever … It doesn’t change the world at all. In fact, it makes it worse because it moves the assets from publicly disclosing companies to opaque private enterprises.”

Entire countries have in effect been accused of greenwashing. The G20, whose Rome summit at the end of October was viewed as a warm-up act for COP26, was in effect accused of collective greenwashing even though most of its members had pledged to reach net-zero emissions by 2050 or 2060. Why? Because in 2020 alone the G20 countries paid out almost US$600-billion in subsidies for the consumption and production of fossil fuels, according to Bloomberg.

Ditto the private equity industry. Of the US$1.1-trillion invested by private equity firms in energy since 2010, most went to fossil fuels, according to Pitchbook, a Morningstar company that tracks the private capital markets, and the Private Equity Stakeholder Project. Of course, the private equity players would rather you knew only about their renewable energy investments. They do have some – just not enough to allow them to slap a deep-green label on their entire portfolios.

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Greenwashing is nothing new, but accusations of greenwashing exploded after the 2015 Paris climate change summit, when almost 200 countries agreed to strive to prevent global average temperatures from rising more than 1.5 degrees above pre-industrial levels.

Paris turbocharged the ESG industry because, for the first time, governments seemed serious about mass decarbonization, creating compelling investment opportunities as businesses embarked on black-to-green transformations. Companies and the ESG funds promoted their green credentials as they sought to attract a new class of investors who decided that doing good for the planet was compatible with decent shareholder returns. And those shareholders could be relied upon to pay a “green” premium.

In truth, it was easy to game the ESG system because no one knew precisely what ESG meant or how to rank an investment on the ESG scale – its taxonomy, to use an awkward expression that has nothing to do with tax. “ESG is a vague term, encompassing many thematic issues, which is typically not used with appropriate care,” said Leon Saunders Calvert, head of research and portfolio management at the London Stock Exchange Group. “There was no definitive methodology about what companies were supposed to disclose for their ESG scores. So they disclosed what they wanted to disclose.”

The broad, ill-defined parameters created some eyebrow-raising situations. For example, one Italian ESG fund highlighted its investment in a German company that makes automatic licence-plate recognition cameras for use on highways – the better to nail drivers with speeding tickets. The environmental argument was that the technology would encourage drivers to slow down, saving fuel – a rather dubious ESG proposition, all the more so since the product makes it easier for governments to operate highways loaded with carbon-spewing vehicles.

But Mr. Saunders Calvert said the accusations of greenwashing went too far. “The greenwashing charge was too easily flung around,” he said. “The companies who actively greenwashed – that is, lied about their sustainability footprint – were certainly in the minority.”

What is needed to avoid the sin of greenwashing is clarity on ESG. There are a million questions.

Should “S” and “G” carry as much weight as “E” when climate change poses an existential threat to humanity? One example of a weighting problem is Tesla, the world’s leading electric car company, with a stock market value of US$1.2-trillion. Surprisingly, the company scores pretty low on the ESG scale, partly because its supply chain extends to cobalt mines in the Democratic Republic of the Congo, where sustainability standards are low to non-existent. Yet its cars produce no tailpipe emissions, and the company makes small fortunes selling clean-air credits to competing automakers. Tesla advocates would argue that the company deserves a higher ESG rating.

A bigger issue is the disclosure level that both investors (funds and individuals) and the financial data firms that assign ESG scores (Refinitiv, MSCI and Sustainalytics, among others) require to get a handle on the ESG-ness of an investment. “Transparency is the key,” said Tamara Close, founder of Montreal’s Close Group Consulting, an ESG strategy advisory firm for capital markets. “There is no standard methodology to determine ESG rankings, but it’s important to have diverse sources of information.”

For example, detailed information about the ESG strategy of a fund or company is essential. Is the fund’s goal simply to reduce the overall carbon footprint of its portfolio of investments by kicking out high-carbon companies? Or will its portfolio include high-carbon companies that the fund managers will encourage to clean up their acts? The latter is no doubt better for the planet.

On the company side, adequate disclosure means revealing all direct (Scope 1) and indirect (Scopes 2 and 3) emissions; the plan to reduce those emissions over the short and medium term – having only a long-term plan is rather meaningless; and whether the board of directors is accountable for ESG strategy, which is a measure of how serious the issue is taken by the company. Investors have a right to be suspicious if the ESG plan is pushed down to middle management.

ESG ratings cannot be as clear and definitive as credit ratings doled out by S&P, Moody’s and others; those agencies follow a strict formula. But as transparency improves, investors will find them more useful. “It’s best to think of them as sell-side opinions on ESG as opposed to a precise ranking,” Ms. Close said.

ESG ratings will no doubt improve for the simple reason that regulators, accounting bodies and standard-setting organizations around the world, from the U.S. Securities and Exchange Commission to the Global Impact Investing Network, are working hard to make ESG reporting more streamlined and uniform. Doing so would prevent investors from struggling to make comparisons between, say, London- and New York-listed companies.

Only this week the CFA Institute published its first set of voluntary standards for ESG investment funds “to mitigate greenwashing.” Ms. Close called it “an important step. They’re a global organization that is well regarded.”

Greenwashing sins will never disappear, since it is human nature to exaggerate the good and downplay the bad. But as ESG investing moves into the mainstream for the sake of the planet, the most deceitful claims will become easier to catch. Governments can only do so much to prevent runaway global warming. If investors use credible ESG ratings to ensure that companies become cleaner, everyone wins.

Tens of thousands of people from world leaders to climate protesters are in Glasgow for COP26. Adam Radwanski, The Globe's climate change columnist, says the size and attention around the summit makes it harder to leave without meaningful agreements on climate action.

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