ESG ratings are a largely unregulated industry. The lack of regulation and transparency has earned ESG ratings many critiques in the past and regulators are coming around to the idea of making rules for the industry. Japan and the UK have chosen to take a softer approach to regulation by creating voluntary codes of conduct for ESG ratings firms. In Japan, the voluntary code of conduct asks ratings firms to make disclosures stating how their practices align with the code. However, the Japanese FCA appears unhappy with some firms’ disclosures. Responsible Investor recently ran an article on the voluntary Japanese code stating that:
“[The FCA’s Hideki] Takada said the FSA’s initial analysis of the disclosures highlight differences in both quality and quantity. ‘Some providers are doing a really good job, explaining very much in detail, referring each principle to their own business model and how they have put each principle into practice,’ he said. However, ‘some providers are not doing that good’, he added. Poor disclosures included simply saying ‘we are doing this’ and repeating the language of the principles.”
The rationale behind the voluntary code of conduct is that investors will gravitate to firms that comply and shy away from those that don’t. However, variance in the quality of conformance may be an inherent drawback of the system. Voluntary codes are becoming popular with the UK making their own voluntary code of conduct and Hong Kong in the process of doing the same. On the other hand, rules in development in the EU show no signs of being voluntary. The market will have to endure a patchwork of codes for some time.
If you aren’t already subscribed to our complimentary ESG blog, sign up here: https://practicalesg.com/subscribe/ for daily updates delivered right to you.
