Authors: Richard Mattison, President, S&P Global Sustainable1 | Bernard de Longevialle, Global Head of Sustainable Finance, S&P Global Ratings
Co-authors: Bruno Bastit, Lindsey Hall, Lai Ly, Paul Munday, Bruce Thomson
Published: January 31, 2022
Total sustainable debt issuance reached a record high in 2021 and is poised for continued growth in 2022. A key challenge for market participants in the coming year will be to manage that growth in a way that combats rising concerns about greenwashing.
While many large companies set sustainability goals and published ESG-related data in 2021, investors, regulators, and the broader public are exercising greater scrutiny of corporate sustainability efforts.
In 2022, corporate boards and government leaders will face rising pressure to demonstrate that they are adequately equipped to understand and oversee ESG issues — from climate change to human rights to social unrest.
Following the unprecedented market and policy momentum behind ESG in 2021, investors, corporate boards, and government leaders have raised expectations for progress on climate pledges in 2022. Alongside climate, biodiversity, and other environmental concerns, social issues — like diversity, equity, and inclusion and worker wellbeing — appear poised to remain in the spotlight, particularly as they are increasingly woven into broader ESG discussions.
Rising demands for action will likely increase pressure for more accountability, greater regulatory scrutiny, and credible disclosure backed by better data. Below, S&P Global outlines key ESG trends that we think will drive the conversation in 2022. Critically, these trends exhibit overlaps and interactions that will have a direct influence on the prospects for meaningful progress on ESG issues in 2022. As the graphic below illustrates, the E, S, and G trends we have identified should not be considered in isolation, but rather we believe they should be understood in relation to each other.
In 2022, corporate boards and government leaders will face rising pressure to demonstrate that they are adequately equipped to understand and oversee ESG issues — from climate change to human rights to social unrest.
The broadened scope of corporate board responsibilities also requires more focus and time commitment from board members to meet their fiduciary duties. Pressure on boards to shore up their ESG credentials is set to grow as investors demand better accountability from the top and heightened focus on sustainability.
Shareholder activism in this area increased in 2021, including votes against directors for lack of credible climate action plans. This trend is set to pick up speed during the 2022 proxy season. In addition, efforts to diversify boards and create policies that foster meaningful diversity, equity, and inclusion will continue to evolve from a box-ticking approach into a holistic appreciation of how differences in identities, expertise, and leadership styles can drive growth and innovation.
Government and corporate leaders are under pressure to strengthen their ESG skills and integrate sustainability into their policy and planning strategies. In particular, they will add adaptation and resilience measures to their investment plans amid the growing economic impact of climate change. In 2021, the U.S. alone experienced 20 storms with losses exceeding $1 billion each.
While many large companies set sustainability goals and published ESG-related data in 2021, investors, regulators, and the broader public are exercising greater scrutiny of corporate sustainability efforts, calling out what they perceive as greenwashing. Much of this skepticism is founded on concerns that companies may be using disclosures and sustainability-related labels on products and services as a marketing tool to appear more proactive on those issues than they truly are.
New global ESG-related standards will continue to evolve in 2022, while global standard-setting bodies such as the newly formed International Sustainability Standards Board can help address what may be the largest obstacle to accountability: the lack of a common baseline for disclosure standards consistent across jurisdictions and industries.
To date, agreement on key metrics and reporting frameworks for environmental factors has crystallized more rapidly than for social factors. But 2022 could bring increasing convergence on the data, metrics, and reporting requirements most relevant to social issues — alongside rising pressure to ensure these metrics measure impact, not just inputs.
In 2021, the number of governments and large companies setting goals to reach net zero emissions by 2050 grew rapidly. But these commitments often lacked interim emission reduction targets or plans to curb indirect emissions that occur along the supply chain. In 2022, we believe that pressure from shareholders and other stakeholders will rise on those entities to develop concrete, near-term plans and begin to act to address emissions across the full value chain.
A 2018 report from the UN's Intergovernmental Panel on Climate Change found that achieving net zero emissions globally by 2050 is critical to avoiding some of the worst effects of climate change. In 2021, the IPCC issued a high-profile climate report that the UN Secretary-General dubbed “a code red for humanity.” This year, the IPCC will release new reports that could recalibrate how quickly the world must act to keep from overshooting the target of limiting global warming this century to 1.5 degrees Celsius relative to pre-industrial levels.
With stakes this high, investors will likely demand more than simply setting long-term climate commitments. We think governments and companies will have to provide credible, achievable near-term signposts on their path to decarbonization. And beyond the established focus on emission reductions, the spotlight will extend to how entities manage exposure to physical climate risks, including the presence and/or adequacy of adaptation and resiliency planning. These expectations will begin to hold entities accountable to their commitments and help address market perceptions of greenwashing.
Despite expectations for governments and companies to make meaningful progress on their climate commitments in 2022, they will be doing so in a broader economic and geopolitical climate marked by inflationary trends, higher energy costs, and tightening monetary policy. These shifts will challenge the climate agenda and sharpen attention on managing the social implications of the transition.
In 2022, a key challenge will be balancing actions taken on the ‘E’ with the ‘S’ when implementing climate transition plans to account for impacts on developing nations and vulnerable domestic populations. In particular, efforts to promote the low-carbon economy may be disrupted in the absence of credible plans to promote economic and social inclusion, access to affordable critical services, and the availability of decent work. Indeed, at COP26 in November 2021, more than 30 countries signed pledges to support workers and communities hurt by the transition to a green economy. In the face of potential economic headwinds, the support provided to emerging economies to balance climate goals with those of economic growth and poverty alleviation will deeply affect social stability and momentum on the global climate agenda.
Investor pressure regarding climate change has historically concentrated on nonfinancial corporations, especially the energy sector. However, major financial institutions and policymakers are beginning to acknowledge the associated long-term threat to financial stability. They’re also starting to recognize the vital role that financing will play in facilitating the low-carbon transition and ensuring the climate resiliency of the economy.
Increasingly, based on the work of the Network for Greening the Financial System (NGFS), central banks are beginning to incorporate climate risk as a stress testing feature for banks and insurers. The European Central Bank’s economy-wide climate stress testing in 2021 showed the need for banks to enhance assessment of their exposure to both climate transition risks and physical risks in order to proactively manage them.
In the U.S., the Federal Reserve is weighing the implications of climate-related risks for financial institutions and the financial system and has called scenario analysis “a potential key analytical tool for that purpose.” China, too, has been examining ways of incorporating climate change risk in its stress testing of financial institutions. Much of the work on climate stress tests is coming from collaborative work globally by central banks, something we see continuing in 2022. Insurance regulators are also taking steps to integrate sustainability, and particularly climate risks, into their prudential frameworks.
We view stress testing as a useful starting point as companies work to measure their climate risk. However, we think there will be continued development of qualitative approaches to supplement these assessments.
Governments and companies are beginning to make progress on commitments to protect biodiversity and nature in their direct operations. For corporates, assessing and managing across their supply chains where materials and inputs are sourced is even more challenging. Data availability and quality as well as generally agreed measurement methodologies remain key challenges. In addition, most of the corporate world still lacks commitments to stop deforestation despite being more easily measured than other natural capital risks, principally due to poor understanding of how to assess the benefits of preservation. Elsewhere, the benefits of nature-based solutions, such as preserving wetlands, forests, and coastlines, will continue to gain favor as effective strategies to help adapt to the physical impacts of climate change.
Several important new initiatives in 2022 should help efforts to prioritize biodiversity. A landmark event in Kunming, China, the next UN Biodiversity Conference, will take place in the late April to early May. At this event, governments will aim to agree on a set of new goals over the next decade as part of the Convention on Biological Diversity, given that the previous targets set for 2020 were not met. Against this backdrop, the final text of the new framework will be an important milestone to set priorities and help strengthen ambitions and measure progress — or the lack thereof.
Elsewhere, the newly formed Taskforce on Nature-related Financial Disclosures will propose a disclosure framework for nature-related information, including standards and metrics, as well as data requirements, that will bring biodiversity and nature commitments into greater focus.
In 2021, companies became acutely aware of their dependency on — and the fragility of — their supply chains. In 2022, we believe this trend will persist as the global economy continues to recover from the pandemic and as management teams focus on heightened supply chain costs and risk of disruption.
Beyond the resilience of supply chains, we also think that social issues in supply chains will garner greater attention, particularly as efforts grow to curb human rights abuses and improve labor conditions.
Existing and proposed legislation will make supply chain traceability and social risk management more important this year. Despite delays in the EU Sustainable Corporate Governance directive in 2021, mandatory human rights due diligence legislation at the national level in member states such as Germany, the Netherlands, and France will move a larger swath of companies to identify and act against human rights violations in their supply chains.
Additionally, continued action in the U.S. and other key markets to restrict imports based on forced labor in supply chains will push companies to evidence credible human rights monitoring efforts up the chain. This will be true beyond Tier 1 suppliers and will include raw materials.
In 2021, we saw more large asset owners, asset managers, and banks adopt negative screening strategies — in other words, exclusion or divestment of companies with weak ESG practices or high exposure to ESG risk. This approach was most notably applied to fossil fuel and other high carbon intensity companies as well as entities with a high risk of acute and chronic physical climate risks. In 2022, we anticipate that negative screening will become more widespread — especially to decarbonize investment portfolios and loan books, as financial services companies seek to build Paris-aligned investment and lending portfolios, further raising the importance of ESG to credit.
Exclusion policies may have immediate effects on the reduction of the carbon footprint of lending or investment portfolios, but this approach has its drawbacks. Advocates of engagement policies note that breaking ties with companies via divestment or exclusion does not encourage change and could result in the sale of those securities to investors who are less attentive to ESG issues. Proponents of engagement therefore prefer to use their investments to influence change by engaging with companies on key ESG themes like the climate transition or working conditions in the supply chain.
Whether they take an approach of negative screening or engagement, lenders and investors will be under pressure to explain how they arrive at their decisions. They will also face pressure to credibly measure and disclose the concrete outcomes of their chosen approach.
In 2021, total sustainable debt issuance reached a record high of about $960 billion, according to preliminary estimates from the Environmental Finance Bond Database. This figure includes green, social, and sustainability-linked bonds and represents a 61% increase in just one year. Based on historical trends, there is room for continued growth, if not acceleration in 2022, as companies and governments seek to finance the transition to a net zero economy.
A key challenge for market participants in the coming year will be to manage this growth in a way that preserves the legitimacy of these financing instruments and combats rising concerns about greenwashing. Indeed, diversification and innovation in sustainable debt instruments are likely to continue, risking greater fragmentation across issuers, instruments, sectors, and standards. For instance, with sustainability-linked instruments, which are poised for strong growth in 2022, market participants should be vigilant to ensure that issuers are setting appropriately ambitious performance targets and maintaining transparency over the life of the instrument through periodic and high-quality disclosure. Efforts to further establish and encourage the uptake of clear standards and frameworks, therefore, will be critical in 2022 to guard the integrity of the sustainable debt market as it reaches new heights.
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