As regulators seek to impose transparency and governance obligations on ESG rating providers, market participants continue to question ratings’ usefulness in investment decisions.
With the UK’s Financial Conduct Authority following in the footsteps of India and the EU in proposing rules to govern agencies that score companies’ ESG performance, investors might be expecting greater visibility on methodologies and conflicts of interest.
However, while regulation will allow asset owners and managers to gain a better understanding of how ESG ratings are determined, it is unlikely to materially improve their utility to users nor address the industry’s divergence in scoring.
“An ESG rating is, at best, a ‘sense check’ to our own research and analysis,” says Jake Goodman, Senior Sustainability Investment Analyst at Federated Hermes Limited. The scraping and organising of ESG data with the purpose of getting it in front of analysts is the most useful service provided by the ESG ratings agencies, he says.
Seb Beloe, Managing Director at investment management group Foresight, argues transparency on ratings methodology is valuable “only up to a point” because it cannot fully resolve the underlying mismatch between what ratings measure and real-world sustainability performance. He points at a single, aggregated rating not being able to capture a forward-looking, real-world impact as one of the main issues facing users.
Andy Howard, Global Head of Sustainable Investment at Schroders, agrees. “Boiling ESG analysis down to a single rating shortcuts a part of the investment process which requires careful thought, especially as there is very little correlation between the conclusions different ESG ratings providers reach for the same companies.”
Goodman from Federated Hermes adds: “The myriad factors that go into the playdough machine of ESG ratings are too disparate for the final result to be useful at face value for an investment decision.”
Restoring trust
Investors also note the ratings industry suffers from a lack of clarity as to what ESG scores can be used for. Beloe argues ratings are often applied in risk management or to provide a vague sense of positive positioning on sustainability.
“In both cases, analysts are likely to be better served by looking at the underlying data and not relying on generalised ESG ratings which are trying to cover a very wide range of issues, some of which maybe material and others most definitely are not,” he says.
Transparency on what specific ratings are designed to measure – and therefore their usefulness in assessing risks and opportunities in portfolios – is critical, according to Howard from Schroders.
Concerns over differences in the scores given to rated firms by competing providers, lack of clarity on what is being measured, and conflicts arising from ancillary services have led to a deterioration in market perceptions and an increase in regulatory attention.
A number of jurisdictions, including the UK have adopted principles-based codes of conduct for ratings providers, others have introduced more prescriptive frameworks.
Research suggests that, despite increased scrutiny and the introduction of regulation, trust in ESG ratings has not materially improved. A recent report by environmental consultancy ERM suggests that recent methodology tweaks and new rules have helped but not transformed confidence levels among corporate sustainability professionals.
The data also shows that companies are increasingly working with two to five rating agencies, hinting at a potential consolidation of the sector.
Aiste Brackley, Director of ERM’s Sustainability Institute and co-author of the report, says the appeal of ESG ratings is that they offer quick, comparable insights without requiring deep dives into company disclosures and that investors can extract specific data points that feed into their own internal assessments.
“Until a better system emerges, ESG ratings remain the fastest way to assess corporate performance across peers,” she says.
The benefits of diversity
According to FCA analysis, global spending on ESG data, including ratings, is projected to reach US$2.2 billion in 2025.
While the UK regulator aims to make ratings “transparent, reliable and comparable”, divergence among providers is expected to persist.
“ESG analysis is inherently complicated and subjective, and so we would question the extent to which ESG ratings being standardised is either possible or useful for investors,” according to Schroders’ Howard.
He sees variation in scoring not necessarily as a bad thing. “We do not see a ‘push for standardisation’ as a helpful goal given investment is inherently a judgement over future outcomes. But ensuring conclusions are based on the most suitable logic, principles and analysis – and used thoughtfully in investment decisions – is very important.”
ERM’s Brackley suggests reaching full harmonisation is perhaps not as desirable as once assumed.
“Regulation is pushing the market toward greater transparency and minimum standards, but differences in scopes, weights, and underlying judgements will continue,” she says.
ERM research indicates there is a growing appreciation for ratings that offer deeper, topic-specific insights, such as granular details of supplier practices, alongside more general ESG coverage.
The FCA recommends that, from June 2028, ESG rating services in the UK will need FCA authorisation.
A consultation on the proposed rules is open until 31 March 2026.
India was the first country to start regulating ESG ratings, which spurred the exit of several providers out of the jurisdiction. The EU’s dedicated law will start applying from next year.
