Issues around ESG, as well as sustainability and climate-related risks in the financial markets were top of mind at the recent ABA Business Law Section Derivatives & Futures Law Committee Virtual Winter Meeting. In his first keynote address since being sworn in as chairman, Rostin Behnam highlighted the CFTC’s determination to make progress in advancing diversity, inclusion, and equity objectives at the agency, as well as his aim to adopt policies relating to ESG investing and climate-related products and markets.
The ABA meeting also featured a panel addressing ESG Developments in Financial Markets, which included Tracey Wingate, Chief of Staff at the Investment Company Institute (ICI), Doug Harris an Adviser with Direct Swap, Ian Cuillerier, Partner at White & Case LLP, Alessandro Cocco, Vice President at the Federal Reserve Bank of Chicago, and De’Ana Dow, Partner and General Counsel at Capitol Counsel LLC.
CFTC Chairman looks to step up battle against climate change and prioritize ESG endeavors. In his keynote remarks, Chair Behnam indicated that the CFTC would continue working with its international counterparts and participate in international standard setting bodies as the agency considers adopting policies relating to ESG investing and climate-related product and markets. That “means answering the President’s global call to tackle climate change by reinforcing the role of derivatives in confronting climate-related risks and supporting innovation that address these risks and support capital allocation” he said, adding “we will need to use our wide-ranging and flexible authorities to address the impact of increasingly severe and frequent weather events as well as the orderly transition to a low carbon or net zero economy.”
On the diversity, equity, and inclusion (DE&I) front, Behnam proudly pointed to the beginning of a new chapter at the CFTC. He noted the Commission’s recent hiring of Tanisha Cole Edmonds to serve in the recently created position of Chief Diversity Officer, as well as the reorganization of the Office of Minority and Women Inclusion (OMWI) equal employment opportunity (EEO) functions at the CFTC. In setting the stage for long term structural change, Behnam proclaimed, “We are moving towards creating a more united workforce driven by strategically embracing and embedding diversity, equity, inclusion, and accessibility principles and best practices and equal opportunity into Commission culture and operations.”
Asset management industry making some strides on ESG front but challenges remain. In the panel discussion on ESG Developments in Financial Markets, Tracey Wingate noted industrywide surveys conducted by the Investment Company Institute and Independent Directors Council (IDC) which drive home the need for greater representation of women and minorities at all levels of the asset management industry. Wingate observed that the surveys, which included 31 of the world’s largest investment firms representing approximately $400 billion in assets under management, showed that people of color to be highly represented in administrative and support roles, but less represented in mid-management, senior management and executive level roles. Wingate noted that less than 18 percent of boards of directors had at least one member who is a person of color.
On a more positive note, Wingate indicated all firms responding to the surveys have diversity and inclusion (D&I) policies in place that demonstrate members’ commitment to increasing diversity in their organizations. Moreover, two-thirds of the firms have policies to support diverse suppliers. Wingate concluded that the surveys show that the industry has made a measure of progress with respect to ESG although very little has been accomplished in some key areas.
Controversial Nasdaq board diversity rule takes effect as member firms strive towards compliance, but some opponents may be gearing up for a fight. Overall, Nasdaq listed companies have been making progress towards complying with the exchange’s board diversity rule which took effect in August 2021, according to panelist Doug Harris. Harris explained that the new requirement, Nasdaq Rule 5605(f), is a comply or disclose rule. That means a company must have at least one diverse board member by August 2023, and at least two diverse board members by August 2025, or explain the company's reasons for not meeting this diversity objective. Companies with five or fewer board members can meet the board diversity objective by having only one instead of two diverse directors.
Harris indicated that the industry has been working towards complying with the rule’s targets for some time even though the requirement was only approved by the SEC in August of last year. In his view, most companies wish to avoid the negative reputational consequences likely associated with noncompliance. Harris also noted Nasdaq has been providing resources to assist listed companies to identify director candidates, and Harvard law school has been lending resources via a directory of eligible board candidates from the alumni pool it maintains. Moreover, new search firms have also emerged which focus on recruiting qualified director candidates to serve on boards.
Even though the Nasdaq diversity rule has been well-received by industry, it remains in the cross hairs of powerful opponents. Harris observed that corporations impacted by the rule have not initiated litigation, although policy groups and republican states’ attorney generals are in the process of challenging the rule.
Harris also pointed to a California diversity law, which is similar to the Nasdaq rule, that is being challenged in the courts based on claims that it establishes unconstitutional quotas and discriminates against white males. Harris expressed his concerns over the fate of the Nasdaq rule if a challenge ever reached the Supreme Court, especially in light of the high court’s current composition.
Carbon pricing is essential in the fight against climate change. Putting a price on carbon is top of the list when it comes to seriously engaging climate change and reducing greenhouse emissions according to panelist Ian Cuillerier. One way to achieve this objective would be to place a tax on carbon, though Cuillerier favors the role market-based tools can play in establishing a carbon price and equitably addressing market externalities caused by emitters. Notwithstanding, Cuillerier opined that putting a price on carbon, in and of itself, would not be enough to get us to net zero by 2050.
Cuillerier explained that carbon markets can be classified into two categories: (i) a mandatory compliance scheme, and (ii) voluntary markets. Compliance markets impose a mandatory framework that is regulated by national, regional or international regimes like the Regional Greenhouse Gas Initiative (RGGI) in the eastern United States, California’s greenhouse gas trading scheme, or the UK and EU emissions trading schemes. Within the compliance mechanisms for these markets, offset credits provide an alternative to direct emission reductions, and are used by compliance entities to meet their requirements under an imposed emissions cap.
Cuillerier indicated that voluntary markets exist separately from these mandatory schemes though they run parallel to compliance markets and sometimes interact with them. However, for the most part, they operate independently. As the name suggests, voluntary markets allow companies and individuals to purchase offset credits on a voluntary basis and, as a result, further the price discovery process for carbon.
Cuillerier also pointed to the important work of the Taskforce on Scaling Voluntary Carbon Markets (TSVCM), an independent governance body for carbon markets and credits formed last year, that will aim to set a global benchmark in proving the social value and carbon reduction potential of carbon credits and offsetting. Industry notables Mark Carney, the former governor of the Bank of England, and Annette Nazareth, Senior counsel at Davis Polk and former SEC commissioner, will lead the task force. Cuillerier observed that the TSVCM’s work is relevant to the market and was set up to recognize that voluntary markets need to scale multiple times in order to attain the net zero goals of 2050.
Cuillerier also discussed the legal issues around documentation and asset identification with respect to the developing carbon markets. For instance, are carbon credits property interests, contractual rights, or a bundle of rights? The answer depends on the law of the governing jurisdiction and is relevant to how these instruments are accounted for and taxed. Cuillerier recommended the International Swap Dealers Association (ISDA) December 2021 titled Legal Implications of Voluntary Carbon Credits that addresses these important emerging issues in detail. In his concluding remarks, Cuillerier underscored the need for greater legal certainty in order for these developing markets to thrive. That will consist of authoritative statements, legislation, regulatory guidance, and adoption of standardized documentation by market participants, as well as recognized global standards.