Sustainable Finance and ESG Investing in India: Opportunities, Challenges, and the Threat of Fraud
Introduction
Sustainable finance is another term that has been coined and referred to as responsible or green finance, meaning investments integrating environmental, social, and governance factors for long-term sustainable development. The approach can solve issues of climate change, social inequality, and human rights while making financial returns. There is growing demand for ESG principles; thus, sustainable investments have followed an increased trend with the market expected to continue rapid growth going forward. This trend brings equal opportunities and challenges in India in the face of resource scarcity issues, infrastructure troubles, and rather complicated regulations in the country. Accompanying growth in ESG investments, came the opening for ESG fraud, too, where fraudsters misrepresent their ESG claims to receive investments and polish their reputation as well. Here, ESG fraud undermines credibility in sustainable finance by deceiving investors and potentially presenting them with gigantic financial and reputational risks.
Table of Contents
ESG Investing In India And Types Of Sustainable Investments:
India has demonstrated evident economic resilience to the prevailing global challenges like climate change, inflation, COVID-19, armed conflicts, and supply chain disruptions. In total, six ESG (Environmental, Social, and Governance) funds were introduced in India between 2012 and 2020; recent data shows the country has 11 sustainable investment funds. These consist of eight actively managed funds, one passive fund (ETF/Funds of Funds), and two global feeder funds. Managed funds continue to be the strong-hold that dominates this space as their AUM accounts for the lions’ share, coming in at 96% and with five fund houses accounting for more than 93% of that entire figure. The largest one made up nearly 56% of the overall AUM figure[1].
In 2021, India has issued the Business Responsibility and Sustainability Report (BRSR) of the Securities and Exchange Board of India, which mandates the top 1,000 listed companies to report sustainability-related information. BRSR Core applies to the top 150 companies, demanding third-party assurance by their FY24 annual report. It is expected to scale up to 250 more by FY25 and then cover the full 1,000 by FY27.
ESG investment has increased remarkably over the last two years in India, and it is considered a long-term investment. It is gaining confidence due to the products that come with the attribute being placed in the market. For instance, the growing trend of sustainable investment is becoming very hot, where the performance of the environment and social factors play a huge role in investment decision-making, providing financial returns and societal impact.
Types Of Sustainable Investments
Sustainable investments include[2]:
1. Green Bonds and Renewable Energy Projects
Green bonds are fixed-income securities used specifically to finance environmental projects, such as renewable energy projects. Investors in green bonds receive periodic returns while supporting climate-friendly projects, such as solar farms or wind turbines. Renewable energy investments offer direct involvement in clean energy infrastructure, which typically offers a much higher potential return but is significantly more volatile. Both options enable investors to support the global shift to clean energy while generating a financial return.
2. Socially Responsible Mutual Funds and ETFs
These funds and ETFs target companies that pass the ESG criteria, excluding companies in industries such as fossil fuels. They are companies with good labor practices, sustainable supply chains, and positive social impacts. The investor benefits from diversified portfolios managed by professionals while supporting ethical business practices. ESG funds can outperform traditional investments, but their financial performance varies, thus requiring careful research and analysis.
3. Impact Investing
Impact investing aims to achieve measurable social or environmental outcomes combined with financial returns. This type of investment concentrates on specific issues, such as affordable housing or clean water programs, which are usually achieved through private equity or venture capital. Impact investments will not have market returns like other investments, but they enable investors to directly engage with global challenges. Impact investing demands a long-term perspective and understanding of methods used in impact measurement.
4. ESG Integration
ESG integration adds ESG factors into traditional financial analysis. Investors judge companies on the basis of financial metrics and their ESG performance, which is then integrated into the investment decisions. This enables investors to understand the opportunities and risks that exist within the companies’ ESG practices and ensures sustainability considerations are embedded in all investment decisions.
5. Negative Screening
Negative screening would mean excluding bad sectors or areas of society as an investment group to society. Such sectors normally excluded include cigarettes, guns and fuel. According to the desire of investors the individuals employ this as their ethical considerations of avoiding something that is supposed to degrade or cause harm.
6. Positive Screening
The opposite of this, however is Positive screening. Positive screening concentrates on actively selecting companies that meet the favorable ESG standards. An investor would want to find firms that are renewable energy-related, promote diversity, or have sustainable supply chains. Investments in firms performing well in the ESG areas result in positive social and environmental outcomes.
7. Thematic and Index-Based Investing
Thematic investing focuses on a set of sustainability issues or sectors, such as clean energy, gender equity, or healthcare innovation. Investors select companies focused on specific challenges; in contrast, index-based investments track sustainability indexes, such as the MSCI or Dow Jones Sustainability Index. These indexes rate the performance of companies on ESG and direct investors to support firms with improved sustainability performance.
8. Sustainability-Linked Bonds (SLBs)
SLBs directly link the financial characteristics of a bond, for example, its interest rate, to a company’s sustainability performance. The terms of the bond are adjusted depending on whether the company meets pre-defined environmental or social goals. This approach encourages businesses to work on improving their ESG practices, and the investors have an incentive to fund firms with stronger sustainability commitments.
ESG Fraud On Sustainable Investors:
ESG fraud is also known as greenwashing, which is a threat to the investor because it is misleading with false or exaggerated claims about the company’s environmental, social, and governance practices. Companies are doing this, making their business appear “eco-friendly” or “sustainable,” while they have no evidence, or inflating ESG data, such as carbon emissions reductions or social impact. This misrepresentation can artificially inflate stock prices, causing capital to be diverted into unsustainable businesses and financial losses to investors.
A further manifestation of ESG fraud occurs when marketing claims of the businesses do not find any match in actual business operations. The business could advertise as being environmentally friendly when in reality it has most businesses relying on fossil fuel or its supply chain is not sustainable. This is creating distrust in ESG reporting systems, thus making it harder for investors to use ESG criteria for making investment decisions.
While ESG fraud does damage the financial interest of investors, it also undermines the more overarching goals of sustainability. It creates scepticism and misallocates capital that might be used to push effectively beneficial efforts to counteract the worst impacts of climate change or social inequality. In the long term, these fraudulent practices mar both the market and the integrity of sustainable investing.
Conclusion
In conclusion, while sustainable finance and ESG investing present significant opportunities for long-term, socially responsible investments, the rise of ESG fraud poses serious risks to both investors and the integrity of the market. In India, the growing emphasis on ESG principles, bolstered by regulatory frameworks like SEBI’s BRSR, has fostered investor confidence and the development of diverse sustainable investment products. However, growing instances of greenwashing and fake ESG claims threaten the credibility of such investments by companies with marketing approaches not in line with the actual operations of the business. Fraudulent activities also discourage global sustainability since resources are diverted to less sustainable operations under the false perception of fraud given by misleading ESG-based fraudulent activities. As demand for ESG investments grows, investors need to scrutinize companies’ ESG claims and regulators must strengthen oversight mechanisms. Only through transparency and accountability can sustainable investing truly contribute to the global goals of addressing climate change, social inequality, and other critical challenges.
[1] IBEF, 2023. ESG investing in India: Navigating environmental, social, and governance factors for sustainable growth. [online] Available at: https://www.ibef.org/blogs/esg-investing-in-india-navigating-environmental-social-and-governance-factors-for-sustainable-growth [Accessed 15 January 2025].
[2] IMD. (n.d.). Sustainable investing. IMD. Available at: https://www.imd.org/blog/sustainability/sustainable-investing/ [Accessed 15 Jan. 2025].
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