Environmental, social and governance (ESG) funds are facing increasing calls for stricter guidelines. The momentum comes from both growing pressure to combat “greenwashing” — where an organisation portrays a false impression, or provides misleading information about its eco-friendly credentials — and the increasing awareness and popularity of ESG funds.
Impact investing — generating positive, measurable social and environmental impact in tandem with a financial return — is on the rise, but it’s not as straightforward as it ought to be for green investors. Calls for standardised criteria and labelling on ESG funds have been growing louder recently.
Growing calls for stricter ESG fund labels
Some 85% of green funds globally were guilty of “misleading marketing” according to a December 2019 study by the 2 Degrees Investing Initiative. More recently, sustainable finance firm New Money highlighted several ESG funds that failed to fulfil their green marketing claims, as reported by the FT last week. ShareAction, a charitable company promoting responsible investment and increased transparency, has led calls for effective stewardship, saying it’s vital to be able to select asset managers based on clear policies, actions and a positive voting record on environmental and social issues.
Green funds guilty of "misleading marketing" in 2019
Across the Atlantic, the US Securities and Exchange commissioner, Elad Roisman, has expressed concern that some asset managers are using ESG as a “virtue signalling tactic”, and therefore misleading investors with greenwashing. He called for clearer ESG labelling from fund groups.
“I do think that retail investors who want green or sustainable products deserve more clarity and information … when an asset manager markets a fund as having an ESG strategy, it has an obligation to disclose material information about that fund,” Roisman said.
Growing demand for ESG funds from Singaporean investors is intensifying the push for clearer standards in the region. Last week, there were calls for Singapore to introduce an ESG fund label that identifies and certifies ESG funds, as reported by the FT.
Paul Pak, asset and wealth management leader at PwC Singapore, said: “Increasingly investors perceive the sustainable investment market as confusing and complex … the use of a fund label would introduce a common standard that brings clarity and communication about how sustainability has played a role in the selection process.”
"The use of a[n ESG] fund label would introduce a common standard that brings clarity and communication" - Paul Pak, PwC Singapore
Can ESG funds compete with traditional funds?
There is plenty of evidence to suggest that environmentally-friendly funds are outperforming traditional funds. Data from AJ Bell shows the average 10-year total return from non-ethical UK funds was 80% at the end of September, while ethical funds gained 103% over the same period, reports the FT Adviser.
Over the past 10 years, Royal London’s Sustainable Leaders fund was the top performing UK ESG fund, returning 195.9%, ahead of Premier Ethical and Liontrust Sustainable Future UK Growth, with gains of 174.4% and 152.6% respectively. The top global fund was the Liontrust Sustainable Future Global Growth fund, with a return of 267.1%. According to the Investment Association, almost £4bn was invested into ethical funds in the first nine months of 2020 — up from £3.2bn in 2019 — and investors are taking note.
Morningstar has provided further evidence of the ESG fund trend. The research agency compared 745 sustainable funds against 4,150 traditional funds, and found they matched or beat returns in all categories. The report concluded that “average returns and success rates for sustainable funds suggest that there is no performance trade-off”. It found the average annual return over 10 years for a sustainable fund invested in large global companies was 6.9% a year, while a traditionally invested fund made 6.3% per year.
What’s next for ESG funds?
Schroders’ Mark Lacy, manager of the Global Energy Transition fund — one of two new sustainable funds launched by the firm in the UK — is bullish about ESG funds gaining momentum. Quoted in FT Adviser, he enthuses: “As we look ahead into 2021, demand for clean energy looks set to rise as costs fall. Improvements in technology and economies of scale mean that renewable energy is now cost-competitive with fossil fuels. And the desire of consumers for more emissions-friendly technologies — such as electric vehicles — is set to fuel the growth of clean power generation.”
"Improvements in technology and economies of scale mean that renewable energy is now cost-competitive with fossil fuels" - Mark Lacy, Schroders
European asset managers lead the way on responsible investment, thanks to stricter EU sustainable finance legislation, whereas the US and Asia-Pacific lag behind. The Trump administration had little interest in climate change, but there’s more hope with new US president Joe Biden, who places far more value on environmental issues.
There’s plenty of evidence to suggest the future looks bright for clean energy stocks and ESG funds. Improving standards and clarity across the ESG space will ultimately aid regulators, investors and the funds themselves — not to mention the small matter of the planet’s future.