TD Cowen Managing Director John Miller joins Yahoo Finance Live to discuss increased scrutiny surrounding ESG investing, how politics are impacting ESG, climate change, and the outlook for investors.

Video Transcript

[AUDIO LOGO]

- Investments aiming to improve environmental, social, and governance outcomes, also known as ESG, continue to face increased scrutiny, largely Republican states fueling the anti-ESG movement in the United States. Now, since the start of 2023, 26 states have proposed new ESG-investing-related bills, many proposing multiple forms to restrict ESG investing with state assets. That's according to a Morgan Lewis study analysis.

Now, Florida Governor Ron DeSantis has been among the most vocal critics. In December of 2022, Florida announced it was taking $2 billion out of the management of BlackRock, marking one of the largest anti-ESG divestments thus far. Though despite the backlash, with some critics accusing companies of practicing what they call woke capitalism, TD Cowen believes ESG investing continues to move towards the mainstream. In a new report, TD Cowen Washington Research Group provides a roadmap with key themes and policy areas that will be the most material to ESG investing and the best ideas by sector.

Joining us now to discuss is John Miller, TD Cowen managing director. Good to have you on the show here. And we mentioned politics, which is one of these themes that you said is really going to be dominating the space here. Walk us through the other themes as well and how much they're going to be impacting ESG investing.

JOHN MILLER: Sure, absolutely. So it's really interesting how much politics has come into the play within ESG. At TD Cowen, we see ESG as a process, not a product, as an investment framework.

And one part of the report today really highlights four main themes we expect to see for the rest of the year through 2023 and into 2024. And so the first is, yes, this is clearly politicized in the US. And that's something asset managers and lending institutions just have to deal with. You can't fight that. You have to deal with that as a problem going forward.

Some other interesting themes in this space are just disclosure, mandatory disclosure and reporting, that's coming. No matter how much individuals can kick and scream about what the SEC is proposing around climate risk, maybe human capital management later than that, even in the United States doesn't move, the rest of the world is. And there will be a default towards a global standard likely coming out of Europe. So mandatory disclosure is coming.

Two other really interesting themes that if you take a bigger step back, how climate policy has become so interconnected with trade policy and how climate policy has become so interconnected with industrial policy. When we think about the 2022 Inflation Reduction Act, it's generally framed as a climate bill. There's new investment tax credits, new production tax credits for solar, wind, and energy storage. But it's really an industrial policy bill about getting jobs and how the United States will compete in this market against China in the next decade.

- So then when we hear a lot of the public outcry about ESG investing, but in reality, what are we actually seeing companies doing in terms of really incorporating this in versus having as an add-on and having this backlash?

JOHN MILLER: Sure. For sure. I mean, part of the backlash is that we always like to reframe this issue, right? So there have been historic left and right political issues for decades. Their views on is climate change happening, right, are human-caused drivers the main reason, that's a conversation that's taken place between Republicans and Democrats for the last 20 plus years. That's not new. It's simply evolved into a new space in finance and investments.

And the same thing on the social side around reproductive health, around health care access. These are issues that have been fought out in politics and are now moving into a new space. So we always try and caution that this isn't really new for politics. It's just a new introduction to the space.

So we've seen a lot of reactions already. Basically, a lot of managers are taking existing funds, right, which had been a value fund or a quant-based fund. In the past three to five years, they've maybe layered in a new ESG label on top of that, trying to expand access for that fund.

And now there's some rethink of that. Is that what they're actually doing? Is it ESG first? Is it ESG second? Is there an impact element.

So there's also a greater push towards refinement of terms, right? What are you doing here? Are you trying to achieve a social good? Or is this really an investment framework to reduce risk and increase opportunity sets as the economy changes?

So managers are changing the names of their funds. They're increasing their disclosure. They're more articulate about who I'm selling what. If you're going to a state in the United States South, you're very clear about this is what we're doing, this is the product, we'd like it to be part of your pension fund.

That will be a different conversation if you have that same manager in New York City or in California. So there's a very clear breakdown between those. And as the data gets better, there'll be much more insight.

The other element that's changing here a lot is how corporates are considering ESG. It's no longer just a sort of bolt-on, nice addition to the product. You're beginning to recognize that as the economy changed, as consumer demands change, as the regulatory structure changed, this is a necessary piece of the framework that expands the pie.

The holistic, mosaic theory of investing, that is what ESG is, right? You're taking new data points that historically haven't been used in the investment framework. And you're allowing them into that process so you can better assess emerging risks and opportunity sets.

- So against that backdrop, then, we want to do quickly get to your best ideas, then, based on the sectors that stood out to you. You've got health, diversified industrials, energy and sustainability, TMT, which is technology, media, telecom, and the consumer. Walk us through the top three big ideas that you think investors should really be honing in on.

JOHN MILLER: Sure. So one of the reasons I think it's interesting, so this report is great. It's 50 plus actionable ideas across five of these very, very broad industry sectors. We had more than 30 analysts across the TD Cowen franchise participate. This is one of our best-read reports throughout the year, right, and historically looking back.

And why is that? Well, first, the main question we get from our institutional investor clients is help me understand what's changing, what's the process, what's of conversation in the ESG space. So we provide some of that content upfront along with those themes.

And then the next big question is, OK, this is very exciting. It's interesting. What do I do with this, right? I'm an investment manager. I need actionable ideas. What should I buy, sell, or hold? So that's the bulk of this report, are those 50 plus actionable ideas.

And we're really adamant that this is across the space. ESG is not simply for traditional oil and gas or utilities. It is across the economy.

Now, the material factors will change based on where you sit and what sector or sector group. So if you look at TMT or you look at health care, the risk isn't biased towards E or emissions. It tends to be much more biased towards human capital management and governance.

If you're in energy transition or traditional energy, of course, you have that big emissions-intensive footprint. And you understand that. Is that something that you can pass that risk on to your customers? Do you have a defensive moat there? Or will you be exposed to increased prices for what now are externalities?

So we really hit on that across the board. Our partner in this process is Truevalue Labs, which leverages a financial materiality data set and structure that was originally put together by FASB. What's unique about Truevalue is that they then take the ongoing conversation in that space, and they can update that as it changed.

So one thing that changed significantly post 2020 through COVID is that the necessity for supply chains, for value chains, and how corporations are engaging with their human capital management and their diversity structure became much more important. And so that framework was able to pick that up and understand those changes and appropriately weight and score where a company sit in that.

So when we talk about ESG, it's the entire S&P 500. It's not core to specific areas. And our approach is a little bit different, too, as well where we don't create a siloed team to think about ESG. Our fundamental analysts consider ESG as part of their process, right?

They know the companies the best. They know the sector the best. They know the investors that are interested in that space. So they can really add in that lens better than a group that just sits to the side and provides unique factors in the ESG space only.

- Yeah, it certainly seems that you do really do that holistic approach within each of these sectors to really be able to make the sort of impact, especially for investors. A big thank you there to John Miller, TD Cowen managing director. Thank you for joining us this morning,