ESG risks Canada's pension savings
This "Woke" ideology is rampant and toxic and will damage the fabric of the Canadian economy
The “Environment, Governance and Social” (ESG) fad has run a long way and has infected Canada’s pension plan management. For a bit of perspective, Canada has 16,608 registered pension plans with reported assets of $2.8 trillion, equivalent to 180% of Canada’s Gross Domestic Product (GDP). These are not trivial amounts and Canadians rely on these savings to pay for their retirement pensions, both public and private. For interest, a 1% difference in the return on investment of these funds amounts to $28 billion or about $75,000 for every one of Canada’s 37 million men, women and children.
The proponents of ESG argue that corporations should be operated with obligations that go well beyond operating lawfully and profitably. They wish to impose on public corporations a set of goals these “do gooders” think will “re-imagine” corporate governance and produce a more equitable and just society. Great goals, nice words, absolute nonsense. But the ESG craze keeps growing in popularity promoted not only by corporate leaders and money managers but also by left wing governments and Non-Government Organizations (NGO’s) with blue-chip membership. The costs of embracing ESG can be material and come out of the returns on investment of the business.
Aswath Damodaran, recognized by many as the world’s leading expert on financial markets, has been unimpressed. He has written a few articles on the subject of ESG which have panned the idea as a costly scam. His latest article is worth a moment or two to read - it is called “The ESG movement: the goodness gravy train rolls on”.
I am currently engaged in a Master’s Degree program in Securities Law. Canadian securities regulators are considering mandated ESG reporting, arguing that realization of ESG goals will lower issuers cost of capital and that ESG information is “material” in that it might be something a “reasonable investor” considers in making a decision to buy or sell a security.
I see two problems with this analysis.
First, investors do not benefit from issuers having a “lower cost of capital” since the cost of capital is what companies pay to raise money and reciprocally what investors get. Cost of capital = Return to investors. It is not in investors interest to get lower returns. Pension funds promoting ESG are doing no favors for the beneficiaries of those funds.
Second, the term “reasonable investor” ignores the Nobel prize winning work of Richard Thaler and Bob Shiller. Thaler found that investors systematically over react to bad news and under appreciate postive trends - in sum, that investors are not “reasonable”. Shiller found that investors fear of missing out (FOMO) led them to bid share prices to unreasonable heights and fear led them to drive share prices to unreasonable lows, measuring those extremes with the Shiller cyclically-adjusted price to earnings multiple (CAPE) and demonstrating that one could outperform market indices by buying stocks when CAPE was low and selling when CAPE was high. In sum, these two Nobel laureates demonstrated that investors as a group were not reasonable.
Defining “materiality” in terms of investor behaviour produces chaotic results and creates a disclosure regime where nonsensical information becomes “material” and it become a statutory violation to omit it from disclosure documents and releases. By defining “material” in terms of the sometimes erratic behaviour of third parties, regulators put an impossible burden on issuers and reserve to themselves the power to decide after the fact what was “material” based on how markets responded to a given disclosure based on the fallacy of post hoc ergo propter hoc in the sea of disclosure and information bombarding investors on a daily basis.
For many, ESG encompasses “climate change” related facts. The reality that CO2 does not and cannot cause “global warming” has been ignored by the leftists promoting a “climate crisis” to attack fossil fuels and advance the use of “renewables” like wind and solar, and securites regulators have been captured by the rhetoric. Reputable scientists are ignored, vilified, criticized and demonized if they don’t line up with the leftist narrative. One eminent scientist, Richard Lindzen, was for about 30 years head of atmospheric physics at MIT and has been subject to extreme criticism for speaking out about the AGW narrative of the left wing of politics and socialists in the United Nations. Lindzen’s speech to a group called the Global Warming Policy Forum is worth your time.
ESG reporting carries costs but provides little benefit. Investors buy securities to earn income, plain and simple. Imposing costs on the businesses that produce that income reduces the returns enjoyed by investors, and arguing that the ESG reporting reduces cost of capital is admitting that investors not only are punished by higher costs but also by lower returns arising from higher share prices. The only investors that benefit from a higher share price are those that sell, passing the buck to those who buy at the higher price. As a class, the profits of one investor come at the expense of another and the only value being created is the profit of the underlying business which is being constrained by the costs of the mandated reporting or misguided efforts to achieve some “social justice” goal not relevant to their business.
Climate change reporting, a subset of ESG, is far worse. It requires an issuer to pretend that CO2 causes climate change (which it demonstrably does not), to invest time and resources in estimating the CO2 emissions of its own operations and those of its customers and suppliers, and make believe that there is a future crisis caused by global warming for which it is obliged to prepare. All of the costs of this activity come out of hides of investors, and in particular the hides of the pension funds managing $2.8 trillion of Canadians pension savings at a high cost. Pension fund managers of Canada’s largest pension funds are paid millions of dollars to pretend to investors both that their management will produce higher returns from investments in companies to which they make no economic contribution and that compelling those companies to disclose ESG and climate change metrics benefits pensioners. Neither is true.
In 2021, the best performing sector of the Canadian investment space was oil & gas which had one of the lowest ESG scores. Pension funds like CPP stated pubicly they would reduce or eliminate investments in the energy sector and support only those that embraced ESG. And, pensioners paid them to make that decision. Alice in Wonderland was less twisted. Spending pension savings on compensaton for parisitical fund management fees whose “experts” compel the companies in which the pensioners money is invested to disclose imaginary risks is nonsensical, and avoiding the most profitable sectors of the economy on the basis of an imaginary risk heaps stupidity on nonsense. CPP earned a return on investment of 6.8% in 2021, about one quarter of return of 28.1% earned on the Standard & Poor’s 500 (S&P) industrials. The gap in about $100 billion on the CPP alone. Why do Canadians pay over $5 million to CPP’s CEO John Graham for such a dismal performance? In fact, multi-million dollar compensation is paid to the leaders of Ontario Teachers’ Pension Plan, OMERS, and Caisse de Depot and all of them underperformed the S&P.
These bright lights lost $95 million on the FTX collapse in the case of OTTP and $150 million on the failure of Celsius, another cryptocurrency exchange that failed, in the case of Caisse de Depot. Gambling on worthless cryptocurrencies and failing to do any reasonable due diligence before putting pensioners money at risk was criminal in my opinion, yet these “experts” still make millions at the expense of the beneficiaries of the pension funds they manage. It is time for our governments to clean house before stupidity destroys Canadians pension savings.
Humanity is a runaway train. I am cynical. I wan't always this way.
The source material to write "What is wrong with Canadian and American democracies?" could regrettably fill a bottomless pit.
Thanks for your efforts.