As people’s interest in socially responsible investing grows, mutual fund and exchange-traded fund issuers are introducing more investment vehicles to allow people to align their dollars with their values.
Among the $46.6 trillion of U.S. professionally managed assets at the end of 2017, $12 trillion – roughly 26% – was earmarked for sustainable investing, according to data from US SIF.
With money pouring into environment, social and governance investing, commonly referred to as ESG, it’s easy to see why money managers want a slice of those assets. While there are a number of sustainable investment funds with long track records doing ESG investing, there are a number of upstarts which may or may not know how to use data properly.
Similar to consumer products that are marketed as “green,” a little whitewashing or “greenwashing” could occur with investing, too.
Will Oulton, global head of responsible investment at First State Investments in London, says he doesn’t think fund companies are purposefully misleading investors, but “there’s a danger that the marketing departments get over-excited looking at the trends in the market and interest in this topic and then try to take advantage of that. That worries us as an organization because investors could lose confidence in sustainable finance.”
Market participants say like any other investment, people should do their due diligence and new tools make it easier for investors to double check the fund’s goal in building an ESG investment portfolio.
“One of the challenges with ESG investing is it’s still a relatively young discipline,” Oulton says.
People have used boycotts to affect industries’ finances for centuries. A few mutual funds, such as Calvert Research and Management and Parnassus Investments, created portfolios decades ago to avoid investing in “sin” stocks like alcohol, tobacco and firearms. Investing with the idea of affecting positive change is an even newer concept.
Another issue is there is no globally accepted structure of how to define what exactly is or isn’t responsible investing, Oulton says. And that’s where the potential for whitewashing comes in, especially for retail investors who are building their own portfolios.
Julie Gorte, senior vice president for sustainable investing at Pax World Funds, says professional ESG investors understand the nuances, but individual investors may have to trust whoever is managing their portfolio. Pax World Funds was founded in 1971 and introduced the first publicly available U.S. mutual fund to combine social and financial criteria for investment decisions.
Despite the increased interest in ESG and a lot more assets going into it, “some of it is more spin than science,” she says.
Investors interested in ESG should first focus on what they’re interested in, Gorte says, whether it’s mitigating climate change, against animal testing, rewarding good corporate governance or other criteria and then study how the fund implements those ideas. She says start by reading the fund’s prospectus, which shows where the fund is invested.
Although individual investors usually can’t afford to pay for ESG data compiled by analytical firms like Sustainalytics and Thomson Reuters, Gorte recommends individual investors go to websites like Morningstar, which ranks ESG mutual funds and ETFs using data from these firms.
“While it’s not a perfect system, it’s a pretty good one,” she says, adding investors need to look at the ratings of a specific fund for more than one year.
Ethan Powell, founder of Impact Shares, a nonprofit ETF provider, says As You Sow is another nonprofit research firm that delves into a fund’s holdings and presents data in an easy-to-understand format.
As funds move from simple strategies like avoiding tobacco and firearms to produce risk-adjusted returns to more complex strategies that aim for a positive social impact, individual investors need to do more work to ensure their holdings are appropriate, Powell says.
“I think if you have very lofty expectations of your capital relative to your social priorities, it requires more diligence and a better understanding of how the fund is going to achieve that,” he adds.
Vikram Gandhi, senior lecturer at Harvard Business School, with a course on impact investing for the MBA program, says mutual funds and ETFs are the best way for individual investors to align their values with their dollars, rather than trying to buy individual securities. He says the level of rigor has gone up as asset managers identify their ESG criteria to include different securities in the portfolio.
As more data is available from researchers like Sustainalytics, concise frameworks may start to develop, he says. For now, investors may have to use several funds to express their different ESG targets, rather than buying one. That shouldn’t keep people from investing in a way that represents the world they want – especially since research shows investors don’t have to sacrifice returns to sleep well at night.
“(ESG investing) is reaching the stage where if you study the ETF that you’re interested in, all the areas that you are interested in, and get a reasonable amount of comfort about its purpose, (go ahead and invest),” he says.
Source U.S. News