What Turned the ESG Boom into a Bust?



By Scott Lewis
Associate Professor of Finance Li Cai

Environmental, social, and governance (ESG) investing—focused on companies whose ESG management practices support sustainability and community improvement—began to gain traction about two decades ago. By 2010, an increasing number of companies were touting their ESG efforts and the flow of money into ESG mutual- and exchange-traded funds started to take off. Within a few years, ESG investing was one of Wall Street’s big trends. 

The trend didn’t last for long, though, says Stuart School of Business Associate Professor of Finance Li Cai. “The money going into ESG funds began to noticeably slow in 2021, and then in 2022 we saw a decline and it became a net outflow, with more money pulled out of those funds than new money going into them,” she says. “In addition, there have been some changes in how companies communicate about their ESG efforts.”

What caused this dramatic reversal? Cai points to several overlapping factors.

“In the past there have been advocates pressing public companies to adopt ESG goals, and the way they have done that is to use the shareholder voting process,” she says. “A lot of that pressure came from institutional investors, such as pension funds and mutual funds. What I see now is that a lot of pressures from these professional institutional investors are lifted.

“Then we can ask what made those institutional investors change their behavior, and to me, one big reason is the change in political tensions,” adds Cai, citing news reports of Congressional Republicans holding hearings that have sent a signal to institutional investors to back off from ESG funds.

Cai notes that the bottom line is also a factor. “When corporations take on ESG efforts, it’s a cost because they need to invest money and personnel to carry out those efforts,” she says. “Now they are seeing the pressure is lifted, so they may decide to reduce ESG efforts from a cost-cutting perspective.”

Overall, Cai says, corporations need to respond to a variety of stakeholders—institutional investors, government, customers, employees, and other groups—and there is always a risk that what they do now will not be favored by some other stakeholders in the future.

“It is unknown whether the changes that corporations are making now are temporary or will last for several years,” she says. “It’s dynamic, always changing.”