Sustainable finance is a critical element of the finance industry as it encourages and supports the flow of financial instruments and related services toward the development and implementation of sustainable long-term business models, investments, trade, economic, environmental, and social projects and policies.
As a recent graduate or candidate to the financial labor market, it is quite likely you will be quizzed on sustainable finance in your next interview.
This article lists some of the more likely questions you’ll be asked by your interviewer (and gives high quality answers inspired by our online, on-demand ESG & SRI Investing course).
The questions are:
1. What is ESG?
2. Can you talk to me about Socially Responsible Investing (SRI)?
3. Can you tell me how investors are using SRI in today’s financial landscape?
4. What do you think is driving the growth of sustainable investing practices?
5. Can you give me an overview of ‘green assets’?
6. Can you explain the SFDR? Sustainable Finance Disclosure Regulation
7. What are some of the different reasons for an organization to engage in healthy sustainable finance reporting practices?
ESG stands for environmental, social, and governance factors –three sets of criteria that are today widely used to assess how sustainable, ethical, and socially responsible a company or an investment product is.
Related article: What is ESG Investing?
Against the backdrop of rapid growth in socially responsible investing (SRI), many investment professionals are incorporating ESG analysis into their investment processes as a complement to traditional financial analysis.
While traditional SRI strategies generally focused on excluding investments perceived to transgress ethical norms – for example, the movement to divest from apartheid South Africa in the 1970s – ESG-based SRI strategies are aimed at managing risk and improving returns, as well as avoiding problematic investment options.
Socially responsible investing means pursuing an investment strategy that considers both financial returns and broader social and environmental impacts.
Yet, despite its growing popularity, many financial professionals do not understand the SRI sector.
In part, this is because there is not widespread agreement on key SRI terms and practices.
SRI includes a range of different strategies and approaches and is known by many names, such as sustainable investing, ESG investing, and ethical investing.
approach responsible investing in various ways.
For retail investors
doing SRI may mean working with advisors to identify investment funds that are
aligned with their values.
Alternatively, it may
mean engaging with their workplace pension fund investment managers to advocate
for responsible investment practices.
investors, the process may be more complex, involving significant investment in
new capacity and extensive changes to decision-making processes.
One popular model for
sustainable investing among institutional investors comes from the UN
Principles for Responsible Investment.
The PRI is an
independent global alliance of investment managers, investment service
providers, and asset owners that have committed to responsible investment.
#1 Emerging Global Risks
A significant number of new, non-financial risks have emerged that pose a grave threat to investors.
Climate change, for example, is associated with drought and extreme weather, which affects business sectors such as tourism, agriculture, oil and gas, and others.
#2 Consumer and Investor Pressure
As governments grapple with the need for sustainable development, investors and consumers are putting growing pressure on the investment management industry to confront the reality of new risks and new economic imperatives.
#3 Improved Data
One historical limitation on investment analysis that incorporates ESG factors has been a lack of data.
While firms report financial metrics every quarter, information about their environmental impact, labor relations, governance structures, and social impact has traditionally been limited and hard to find.
Today, however, many providers offer detailed and comprehensive ESG information for thousands of companies. At the same time, more firms are producing regular, detailed – and in some cases, audited – reports on their ESG performance.
Green assets are financial instruments that raise funds which will be used to finance environmentally beneficial or "green" projects or business activities.
Green projects may include building renewable energy capacity, clean transportation infrastructure, or energy-efficient buildings.
Typically, green assets are bonds, but they may also be loans or securitized instruments such as asset-backed securities.
In the case of green bonds, most are backed by their issuers' total balance sheets.
However, some green bonds are instead backed by revenues from the associated green projects.
Other types of green instruments, such as green asset-backed securities, are backed by cash-flows from the underlying green assets.
Solar asset-backed securities, for example, are backed by cash flows from pools of loans used to finance the installation of solar energy systems.
Green assets are associated specifically with environmental concerns, rather than social or governance ones.
The SFDR is designed to help institutional asset owners and retail clients understand, compare, and monitor the sustainability characteristics of investment funds by standardizing sustainability disclosures.
Under the SFDR, firms must make both firm and product-level disclosures about the integration of sustainability risks, the consideration of adverse sustainability impacts, the promotion of environmental or social factors, and sustainable investment objectives.
The SFDR – together with a range of other EU sustainable finance initiatives – is intended to support the European Green Deal, which envisions a European economy that is both climate neutral by 2050 and positive for biodiversity.
To achieve this, the SFDR focuses on disclosures. There is a general belief that enabling end-investors to better understand the impact their investments have on society and the environment through increased transparency will encourage them to shift capital toward activities that are less harmful and potentially even positive.
#1 Compliance and Regulation
Many companies produce ESG data – especially data on governance matters – to comply with rules and regulations.
Listed companies, for example, generally must provide at least some ESG data to comply with listing requirements.
Similarly, in many jurisdictions, regulators require disclosure on certain governance and – increasingly – environmental matters.
In some cases, companies may begin to collect and report ESG data because they wish to be included in certain indices or to earn ratings by certain SRI rating agencies.
#3 Investor Demand/Peer Pressure
Increasingly, investors are requesting that investee companies provide ESG data.
Typically, they will request data that is prepared and presented in line with a set of recognized standards. Therefore, when companies are driven to adopt ESG reporting under pressure from investors, they often do so in line with the desired standards.
#4 Broader Strategic Imperative
For some companies, gathering and reporting ESG data is a part of a broader strategic imperative to embed socially responsible practices throughout their business.
Companies that are pursuing sustainable strategies may want to gather ESG data to evaluate and monitor their own performance and may produce reports as a natural outcome of this process.Related article: How is ESG Investing Impacting Executive Pay?
In conclusion, sustainable finance is an ever-increasingly important area of the industry and one you should be well versed in as you look to kickstart your career in the world of finance. Not only will a strong bank of knowledge on this subject stand you in good stead during an interview, but it will also transfer over into your future role.