This week, Talking Biz News Deputy Editor Erica Thompson reached out to Qwoted’s community of experts to inquire about ESG investments, an area turning into the hottest new trend on Wall Street.
Check out some of the top commentary:
The ESG growth were presently seeing should continue indefinitely for several reasons:
1) Assets under management are beginning to utilize ESG criteria and data.
2) ESG investing is addressing and mitigating global issues while providing competitive returns.
3) Younger investors are leading a generational shift in capitalism that better aligns with personal and stakeholder values.
The ESG movement is here to stay.
The inherent risk with the ESG trend is two-fold: The first is greenwashing (misrepresenting the true social and environmental impact of investments for public image reasons), and the second is the risk of allowing the ESG elements of the investments to overshadow the fundamentals such as financials, market demand, and profitability.
Ian van der Vlugt, VP of Product and Research at Datamaran:
The growth in ESG investing can be ascribed to a realization in the market that doing good does not have to be at the cost of seeing returns; that external risks, including ESG, are real, dynamic, and can have huge impacts if unmanaged; that ESG also presents ample business opportunities; and that investment choices can effect real-world change.
As long as these are not mere hyperbole, there’s no reason to expect this trend to wane.
The biggest risk to this positive sea change is inauthenticity – investors adopting the same greenwashing practices that they decry. This can be mitigated through true ESG integration that supports multi-stakeholder value creation and results in positive real-world impacts.
Loren Asmus III, CFA, CAIA, vice president of investment research at CanterburyConsulting:
ESG interest from both current and prospective clients is increasing. Clients are interested in ESG from several different perspectives, including investment in specific impact initiatives (i.e. affordable housing) and the portfolio integration of custom ESG values.
Canterbury is one such organization that will customize an ESG portfolio to align with its clients requirements.
Clients also utilize third-party rating platforms to better understand how companies compare from an ESG rating standpoint.
According to a survey conducted by Canterbury to clients, 15% of families and 14% of endowments/foundations (E&Fs) anticipate having 20% or more of their portfolio invested in ESG-oriented mandates within the next 1 to 3 years.
On a separate note, investment managers have made strides to incorporate more robust ESG frameworks to better assess investment opportunities and risks.
Trend-wise, if anything, growth in ESG investing in the U.S. is just beginning.
We are observing that much of the growth in “ESG investing” is being driven from increased integration of ESG factors throughout every facet of the investment management industry. Rather than ESG investing being some brand new asset class or investing style, we are seeing an increased focus on sustainability and ESG factors as a natural extension of fundamental research running in parallel with broader (and not necessarily investment-related) global trends, such as the recognition of the continued work necessary around DE&I efforts and the existential threat of climate change.
To that end, we do expect to continue seeing further increased focus, growth, and momentum around ESG and sustainable investing. As with any form of investing, though, what really matters is skill and execution on the part of the investment manager. A focus on ESG is no magic bullet and the worry is that while ESG investing is in this current boom phase, it is sometimes difficult to delineate who is an exceptional practitioner of ESG investing and who is instead scrambling to get up to speed while simultaneously making bold but unsubstantiated claims about their sustainable investing abilities, or “greenwashing.”
There is still significant room for growth in ESG investing, as currently the demand from retail investors is not being met by financial advisors, the vast majority of whom lack any substantive training or experience with incorporating ESG investing criteria into investment portfolios. At this point, most financial advisors still aren’t sure how to start the conversation around ESG investing, even though surveys show that the vast majority of investors would like to have the discussion.
The greatest risk inherent in the trend is that the current industry greenwashing prevalent in the industry will limit the impact of ESG investments, and essentially create a world where everything and nothing is ESG. Mandated ESG disclosures and uniform, regulated ESG metrics would go a long way to standardizing how we measure impact and would significantly reduce the threat of greenwashing.
ESG ETFs are a continued part of a larger positive “trend” across the investing landscape that I think many advisers need to embrace, and help consumers reconcile for themselves if such options can support their investing goals.
We live in a market era where organizations and consumers are empowered to align their personal values and their finances like never before. And while you cannot throw out conventional wisdom and ignore fundamental analysis when it comes to portfolio design and selection, ESG investments have measurable tracks records and can/should be instruments people should explore.
The risks to be aware of are no different than other kinds of investments. Ultimately, investing is still about performance, and while many ESG investments are showing good if not superior performance, not all of them are. In this area it is important to be as dispassionate as possible because what investors should value most is achieving their financial goals, and if a particular investment will not get them there, then others must be considered.
One out of every three dollars under professional management in the US is invested according to sustainable investing strategies, and the amount of capital flowing into sustainable investments is increasing each year exponentially.
This trend is driven by growing evidence that sustainable investing can go head-to-head with conventional investing — offering competitive returns with less volatility risk. Over 2,200 studies of financial markets over the past two decades have shown that environmental, social, and corporate governance (ESG) criteria can be key factors in achieving superior investment results.
For example, a Bank of America/Merrill Lynch study showed that stocks ranked within the top third by ESG scores outperformed stocks in the bottom third by a whopping 18 percentage points from 2005 to 2015. Investors are waking up to the reality that ESG metrics are as crucial to consider as conventional considerations.
The bottom line is that sustainability is good for the bottom line. That’s good news for conscious investors, but it may be even better news for the health of our planet.
Investors need to be particularly selective about how they make ESG investments. There are plenty of asset managers who seem to be disingenuous about ESG investing because they claim to have done the research on which companies are “good” and which companies are “evil,” but their ESG portfolios often look like a mildly vetted and repackaged version of old offerings. Investors may want to look at the new class of emerging managers whose sole focus is a commitment to socially responsible investing to ensure their portfolios align with the companies most positively impacting society.
ESG is a compelling defensive strategy against volatility as evidenced by ESG outperformance of traditional portfolios during the 2020 COVID pandemic. The pandemic may be ending, but its lessons are relevant to keep in mind for future (inevitable) crises like climate change. These risks/ the fact that investors and consumers care about them are what will sustain ESG/impact investing.
A possible risk to ESG investing is that it’s a long term strategy that is often overlooked for short term interests. But business world, investors, and policymakers are increasingly recognizing the long term value in accounting for environmental, social, and governance issues. ESG investing was among most popular responsible investing strategies, accounting for a third of all managed assets in the US. (1 in every $3 under professional management around the world is already invested using a socially responsible strategy.)
Shamir Ghumra, Head of Building Performance Services at BRE Group:
There are a few market forces at play driving the ESG investing trend: 1) during the pandemic ESG funds have tended to outperform their non-ESG counterparts; this is clearly fueling a positive demand for ESG funds; 2) The wider market and policy space pertaining to the increased relevance of ESG in the consumer consciousness is also pushing demand for more ESG friendly choices; 3) The need for governments to take a stronger regulatory line on meeting emissions targets will also be pushing investors to pre-empt regulation 4) Disclosure requirements and enhanced reporting are being used to define ESG activity; we need to be mindful that performance will be the true judge of these funds.
Regarding risk, I think there is more general awareness of the potential pitfalls of passive ESG investing than might have been even 5 years ago. I believe that advisors are trying to understand the fund based on proprietary in-house approaches (likely complemented by the larger ratings agencies data) to come up with an approach that works for them and their clients. This will be interesting to watch as the market will drive towards a degree of normalization of reporting; how the principle data is recorded will actually be where the battle is won for investors in my view. As with most things in life, it comes down to a question of context.