How and Why Asset Managers Use ESG

The chapter describes the evolution and current state of sustainable finance within the wealth management industry, along with the description of the main financial products with particular reference to existing regulations. Sustainable finance tracing its origins back to the sixteenth century. Today, sustainable finance is expanding as profit-driven companies integrate scientific principles with business strategies. The European Union defines sustainable finance as activities promoting growth while minimizing environmental harm, aligning with climate goals under the European Green Deal. It encompasses environmental, social, and governance (ESG) factors in investment decisions that support long-term sustainability. The EU has implemented an action plan to enhance sustainability and transparency in investments, including mandatory disclosures related to the EU Taxonomy Proposal and the Corporate Sustainability Reporting Directive. There is a rising demand for ESG products, reflecting changing investment preferences. Surveys indicate investors prioritize ESG criteria in their portfolios. Wealth managers must tailor services and educate clients about sustainable investing to foster lasting relationships and seize growth opportunities. Asset managers play a critical role in addressing climate change within a financial system often focused on short-term gains. Achieving net-zero carbon emissions by 2050 requires substantial financial investment, and wealth managers need to create products that support environmental goals while delivering competitive returns. Green bonds are financial tools funding climate-friendly projects while offering investor returns, distinct from regular bonds since they focus on environmental impact. The green bond market has grown since its inception in 2007, with major institutions entering the sphere. Mutual funds with sustainable goals rely on ESG scoring to create portfolios, evolving from the early 1970s with the Pax World Fund. Various ESG investment strategies exist, including exclusion, inclusion, integration, impact, and thematic focus. European Climate Benchmarks introduced in 2019 support investment strategies aligned with climate objectives, separating them into Climate Transition Benchmarks and Paris-Aligned Benchmarks. Both aim to limit temperature rises but have different criteria for carbon reduction and exclusion of harmful industries.