Long-term capital allocation is increasingly focused on achieving risk-adjusted returns, while making a positive impact. This shift is driven by four factors: a growing scientific consensus on long-term biophysical risks, such as climate change and biodiversity; shifting consumer sentiment towards sustainable products and services; the long-term economic competitiveness of businesses and the rapid changes to regulation and policy. 

This fast-changing regulatory environment will affect how risks are priced and how products are manufactured, marketed, and distributed. It is also central to financial markets, ensuring they function efficiently whilst protecting participants and the market against systemic risks.

Sustainability touches all these objectives:

1. System stability: Regulators and market participants acknowledge that climate and biodiversity risk present material exogenous risks to long-term market stability.
2. Protection of market participants: As the growth of ESG products has outpaced traditional investment products over recent years, regulators are now acutely aware of the increasing greenwashing risks to investors.
3. Market efficiency: the mispricing of social and biophysical externality costs is considered one of the main market inefficiencies driving the current unsustainable growth.

Regulators are moving to ensure that the level of exogenous biophysical system risk exposure is reduced, that market participants have appropriate visibility on sustainability risks and that effective price signals are in place for environmental externalities to ensure market efficiency. 

The pace of change varies across the globe. Whilst Europe has been an early mover, the USA has shown intent to implement legislation, but a growing anti ESG regulatory movement is gaining traction ahead of the 2024 elections. While in Asia, governments are trying to catch up with their western counterparts.