In recent years the growth in products marketed on the basis of their strong environmental, social and governance (ESG) credentials has exploded. More than half the money – a total of €1.4 trillion – that flowed into European funds in 2020 went into sustainable products.
A new paper from Capco, Climate Conduct & Financial Services: Tomorrow’s Mis-selling Scandal?, cites a recent survey that found 63% of 550 global financial service professionals consider their products to be green friendly; while 64% said their upcoming products were designed to be socially and environmentally friendly.
However, Capco notes that this ‘gold rush’ of new green products and clamour to seize upon a new opportunity, carries with it the potential to misrepresent the true underlying nature of these green products. Consequently, the potential risk of mis-selling cannot be understated as firms look to enhance perceptions of their environmental credentials and products.
Highlighting past instances of ESG-related mis-selling such as the Volkswagen ‘Dieselgate’ and UK Green Deal scandals, Capco warns that financial services firms must learn from these past lessons. With regulators now moving towards legislation to make existing initiatives and frameworks binding to mitigate mis-selling risks for both firms and consumers, it is vital firms recognize the potential pitfalls and the harm arising from mis-selling at both the company and sector levels.
The paper identifies five core principles that firms should be following.
- Embed climate risks and opportunities at the highest level – Firms should be focused on ESG and climate-related risks and opportunities at the highest level, with dedicated risk management function, board, and executive level representation.
- Take a holistic view – Potential conduct risks arising from climate change must be recognised and factored into their strategy and risk management frameworks. In the past two months, Capco has reviewed 63 separate disclosures covering climate risk management, and only a handful identify climate conduct as a material first or second order risk.
- Work through product lifecycles – Firms should be applying risk assessments around green products and considering their full lifecycle, including interaction with third parties. When outsourcing elements of specialist product sales, they must ensure their third party’s standards, risk management and controls are equivalent to the firm’s own.
- Approach the data challenge – The need for robust and scientific data when making environmental claims is paramount. Firms should look to increase capacity to complete full lifecycle assessments of their products, ensuring that they are able to make valid and substantiated claims about their products. Movements in the development of global taxonomies will help to standardise and provide clearer ESG labelling guidelines.
- Keeping pace with disclosure developments – Firms must constantly revisit and review their own frameworks on a timely basis, or risk being left behind or fail to meet new standards of disclosure (e.g. Taskforce for Nature Related Financial Disclosures). As COP26 draws ever closer, the pressure for action is intensifying and it is likely frameworks will become mandatory.
The paper’s authors comment:
“The complex subject of conduct in combination with climate change, presents an anxiety-inducing and risk-strewn proposition. When navigating this potential minefield, caution and process must become the focus at all levels of the firm when delivering robust and defendable frameworks to manage ESG products and services. Without this approach, it will be all too easy for firms to over-egg their ‘green pudding’ and as Dieselgate attests, ‘where there’s blame, there’s a claim’.
“The danger of mis-selling green products and misrepresenting the positive ESG or climate credentials of a product may deliver short-term gains, but could also lead to significant value destruction in the longer run. If the lessons of previous mis-selling mishaps are learned, then this could be the defining opportunity for the next generation of financial services’ customers, firms, employees and executives. If not, it has the potential to damage not only individual firms’ balance sheets and reputations, but also broader efforts to make sustainable finance a reality – and ultimately the very future of our planet.”