The SEC chairman expressed skepticism about ESG ratings in a conversation hosted by a think tank focused on long-term investing.
SEC Chairman Jay Clayton cautioned against lumping ESG factors together to produce a single-point rating in a conversation with FCLT Global’s Mark Wiseman. The official discussed the SEC’s work on disclosure guidance, including guidance addressing COVID-19 risks. He also reiterated his commitment to the long-term retail investor and questioned the wisdom of doing away with quarterly reporting. One topic Clayton shut down early was the news that he is slated to replace ousted New York prosecutor Geoffrey Berman.
E, S, and G. FCLT stands for Focusing Capital on the Long Term, and the questions by investment manager Mark Wiseman focused on long-term investing, disclosure, and sustainability from the investor’s perspective. The conversation began with, and often returned to, the topic of ESG ratings. Clayton is skeptical that a single-point rating can capture these very forward-looking topics and said that creating metrics on subjectivity and uncertainty actually increases subjectivity and uncertainty. ESG issues are not like historic financial metrics, say P/E ratio or EBITDA multiple, that produce a fair amount of precision. He cited MD&A as an example of a critical, but principles-based, disclosure.
Clayton notably distinguished among the categories of ESG and how their materiality depends on the industry and company. Environmental risks, although forward-looking, may be more conducive to metrics, and companies that are directly susceptible to these risks like property-and-casualty insurers are modeling those risks and disclosing. The materiality inquiry is different for a company whose risk exposure is indirect, like a cabinet maker. Social factors are very different, and Clayton said that the disclosure regime already requires about all it can when it comes to governance. To an audience question about fiduciary duties, Clayton responded that the principles-based regime means that it will clearly be part of management’s fiduciary duty to disclose ESG risks at some companies.
International coordination. Wiseman asked Clayton about the audience for disclosure and contrasted Europe’s focus on the impact on "people and the planet" with the SEC’s regime of providing information for investors. The chairman said that without ducking the question, the SEC’s mandate does not extend to other stakeholders. The required disclosures often have a side effect of producing additional information, which Clayton said he welcomes, and he is also receptive to other regulators requiring supplemental types of disclosure. Wiseman said that the multiple regulatory requirements lead to a glut of information that is harder for investors to digest. He added that as with MiFID II, companies will default to the stricter European rules.
For Clayton’s part, he said he works closely with IOSCO and his international counterparts to ensure global regulatory coordination and enforcement cooperation. He also provided an "absolute endorsement" of the heavy responsibility the United States places on companies to provide adequate disclosures by allowing private rights of action. This private enforcement mechanism is globally unique, Clayton emphasized.
Access to information. Wiseman and Clayton also discussed the availability of information about companies. Wiseman posited that the efficiency of the public markets steers investors to proprietary data. While investors have been gathering data in low-tech ways for a long time (Wiseman cited the example of hanging out at the port of Rotterdam with binoculars watching the tankers come in), technologies such as big data, machine learning, and AI are making alternative data even more important to investing.
Clayton said that he is always focused on the longer-term investor and seemed to disfavor the idea of moving away from quarterly reporting, noting that frequent reporting puts a check on the advantage offered by alternative data. The longer the period between reports, the more important proprietary data becomes because it provides an informational advantage since the last report. He distinguished quarterly reporting from managing for quarterly guidance, which most investors disfavor in the long term. When Wiseman joked that Clayton had given him a green light to access alternative data, Clayton clarified that while he loves the port-of-Rotterdam example (although the binoculars have been supplanted by satellite images), information-gathering must be fair and must comply with the insider trading laws.
An audience questions concerning the trade-off between liquidity and long-term investing posited that long-term mutual fund investors seem to subsidize frequent traders. Clayton said that liquidity is important even to serve long-term investors: among 50 million households, some are going to need to cash out at any given point. The SEC is very focused on whether the costs of liquidity are fairly distributed throughout the investing public. Whether short-term investing is harming the markets is also a constant concern; Clayton said that the best way to deal with it is to ensure transparency and to police anyone acting nefariously.
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