Navigating ESG Data Challenges

Building confidence in an uncertain future

ESG investing is in full swing. According to a poll of 184 institutional investors in 2022, 86% have implemented sustainable investment strategies into their portfolios, and the number of participants is only growing. The number of ESG standards is also increasing — EY estimates that there are more than 600 ESG frameworks and standards today.

This poses a challenge for investment managers who have to interpret regulatory standards and anticipate future changes, as well as build and manage reliable ESG scores formulated from the massive volumes of data made available via vendors and proprietary research.

As a data management solution provider focused on ease and simplicity, Fencore has made navigating this landscape one of its priorities. This overview captures the challenges we have learned from working with asset managers both large and boutique.

Part 1: ESG industry issues

Data vendors and regulators make up a big part of the ESG environment in which asset managers operate. Here are the implications for the decisions those managers must make.

• 1. Evolving regulatory definitions

  Upcoming definitions of sustainable investments remain unclear. A prime example is the EU’s Sustainable Finance Disclosure Regulation (SFDR) and the UK’s Sustainability Disclosure Requirements (SDR). Asset managers are caught in shifting sands, struggling to make decisions that may impact the classification of their holdings and the international distribution of funds with total clarity.

• 2. Preparing reports through change

  Evolving regulations come with changing reporting requirements. Asset managers must transform their data to accommodate a variety of reporting standards — sometimes through spreadsheets or manual work — and maintain reporting accuracy even as internal ESG formulas and regulatory standards change.

• 3. Prohibitive costs of ESG data by ratings providers

  Data subscriptions have always been expensive in a market with few trusted providers of fundamental financial data, and it is no different with ESG data. MSCI, Sustainalytics, Bloomberg, S&P, Refinitiv, Matter, RepRisk and a handful of others remain the top vendors of choice, and costs remain high. Boutique fund managers are often priced out altogether.

• 4. Lack of coverage of mid-cap and small-cap companies

  Portfolios of both boutique and large asset managers often include mid-cap and small-cap holdings that can bring significant returns. Smaller companies struggle to meet ESG reporting requirements and therefore rarely show up on vendor ratings. The only way to provide a rating is proprietary fundamental research and analysis — time-consuming and expensive.

Part 2: Operational issues

As firms advance on their ESG journey, fee pressure and challenging market conditions mean management is not keen on writing blank cheques for ESG data sources. Consuming this data efficiently to feed all internal use cases is paramount.

• 1. Time-consuming manual collection stored in spreadsheets

  More than 50% of companies store their ESG data on spreadsheets today, and there is resistance to moving away given the logistical burden and cost of transferring operations to data management systems. There is also an invisible cost and risk in relying on error-prone, time-consuming manual work and macros. By avoiding the visible costs, fund managers take on these invisible costs and risks instead.

• 2. No single ratings provider has full coverage

  Providers typically derive a score from a selected list of metrics, or assign a larger set into categories. Because of that selection, no single provider covers all metrics — carbon emissions, diversity and inclusion, labour relations, and others. Filling the gaps relies on paying for, and combining, a growing number of ESG data vendors.

• 3. Low agreeability of ESG ratings from different providers

  A single source of ESG data is insufficient: the risk of greenwashing is too great, and it will not fulfil regulatory requirements, particularly for Article 8 or 9 funds under SFDR. There is considerable subjectivity in assigning ESG scores, together with opaque methodologies. ESG scores across six of the most prominent providers correlate on average by only 54 percent. Retrieving multiple third-party opinions is advisable to gain confidence that an investment has the green credentials it espouses.

• 4. Data management and workflow issues

  Unlike fundamental financial data, which is considerably more standardised, ESG data requires overlay processes to consume and aggregate data from multiple sources and house them in a single unified platform alongside financial data. This can leave users browser-tab switching between ESG point solutions in a disruptive workflow.

• 5. Corporate issues

  Large organisations can also get in their own way. Asset managers have to scan the horizon to pre-empt future regulations and prepare data warehouses appropriately. Both management structures and data management technology have to remain nimble. Risks increase if a manager requires attributes not provided by rating agencies, or if systems cannot deliver data that meet regulatory reporting requirements — fines, restrictions on distribution, or accusations of greenwashing.

Part 3: Overcoming the challenges

• 1. Store manually sourced ESG data in an audited system

  If prohibitive costs prevent your firm from purchasing ESG ratings, the next best approach is to store the data cost-effectively inside a secured and audited system. You benefit from a transparent audit trail that can show how internal research affected your investments’ ESG scores over time.

• 2. Calculate an internal ESG score

  Instead of relying solely on external scores, calculate an in-house score from weighted averages of your chosen sources. This puts your company’s stamp on the methodology while considering all available data. Maximise the benefit by making source information, aggregation formulas, and levels of agreeability available to all stakeholders at security, company, and portfolio level.

• 3. Build a unified data platform to house your ESG data

  Instead of hopping between ESG point solutions from individual ratings vendors, automate feeds into a single data hub. This mastered data becomes the single source of truth for ESG. House other masters — portfolio, legal entity, position, and security — alongside it to supercharge operations and allow flexible report generation for regional taxonomies and regulatory requirements.

• 4. Prove to regulators you have done your homework

  As ESG-related standards move from guidance to requirements, asset managers must prove they have been diligent in managing the myriad sources and attributes of ESG data — not only in their home market, but in any region where they wish to distribute funds. Instances of greenwashing carry serious reputational risk. Conflicts of interest can arise when agencies are paid to provide ratings. The same pattern appeared in credit ratings leading up to the Great Financial Crisis; taking the right steps now with ESG data makes strong business sense.

• 5. Move forward with digital transformation

  With the rapid advancement of technologies that aid the finance industry, it is now a critical, cost-saving exercise to enhance operations with software such as Fencore’s SaaS data management offering, DataHub. Improved technological capabilities mean fund managers can navigate the ESG landscape as it evolves, and investing now will help drive sustainable growth.

Ready to take better control of your ESG data?

We hope this list of ESG data challenges has been helpful, and that it inspires you to improve your firm’s operations. To find out more about how a data management platform can help, speak to us or request a demo.

A unified, audited ESG master — with your methodology on top — is how firms stop treating sustainability data as a spreadsheet problem.