Debunking six ESG myths
From low returns to a lack of interest among the elderly, there are many misconceptions around environmental, social and governance investing. Here are our top six myths
Myth 1: It’s more expensive
The most common refrain voiced by naysayers when it comes to sustainable investing is the fees are much higher and it doesn’t significantly outperform the rest. That’s a misconception. Morningstar has analysed 4,900 investment funds domiciled in Europe, including 745 sustainable open-ended and exchange-traded funds. Hortense Bioy, director of sustainability research, Europe, Middle East, Africa and Asia-Pacific, at Morningstar, says: “We found in Europe, active environmental, social and governance, or ESG, funds charge lower fees than active non-ESG funds across the vast majority of categories. I would attribute this to the increased competition among ESG funds as their popularity grows.” This was particularly apparent in the categories US large-cap blend equity and Europe large-cap blend equity. In both categories, ESG funds are 30 per cent cheaper on average than their non-ESG counterparts. However, passive ESG funds tend to charge a small premium relative to their plain-vanilla passive peers. “That’s because the latter have cut fees very aggressively in recent years, with funds charging fees as low as 0.05 per cent,” says Bioy. This year ESG funds have seen record inflows spurred by the pandemic. Should global inflows continue to rise, fees are likely to decrease further, as providers vie to attract customers.
Myth 2: It doesn’t perform as well financially
The majority of ESG funds have outperformed their traditional peers over three, five and ten years, according to Morningstar. Over the ten years to 2019, some 59 per cent of sustainable funds (defined as ESG funds in this research) have beaten their traditional counterparts. Across the industry, ESG investments have shown to be more resilient during the market crash brought about by coronavirus. This is partly due to their focus on technology stocks and avoidance of carbon-intensive industries like aviation, which have suffered as a result of the pandemic. But it also reflects a wider mind-shift among investors. “The COVID-19 pandemic has reinforced the value of sustainable investments,” says William de Vries, director of impact equities and bonds at Triodos. “When it hit, we were faced with massive market volatility and uncertainty; however, our fund managers took steps early to respond quickly.” He says their defensive positioning has meant the Triodos Pioneer Impact Fund outperformed its benchmark by 7 per cent in the first half of 2020. Sustainable investment has been on the rise over the last few years and the pandemic may be a turning point for the sector to continue its march into the mainstream. The UK’s Investment Association reports a record inflow of £7.1 billion invested in responsible or sustainable funds so far this year, which is nearly four times the £1.9 billion that flowed into the sector over the first three quarters in 2019.
Myth 3: There are only a very limited number of sustainable investments
Sustainable investors tend to use a negative filter to exclude so-called sin stocks, such as oil, weapons and tobacco, while focusing on companies that have good environmental, social and governance credentials. This means a vast range of profitable stocks get excluded from the investable universe. But that doesn’t mean there’s not enough to choose from. “We’ve curated over 400 companies in the Clim8 portfolio that have a product or service that’s making a positive difference to climate change,” says Duncan Grierson, founder and chief executive of Clim8 Invest. The startup has raised £1.8 million on Crowdcube this year for its digital platform that focuses on sustainable investments in clean energy and technology, sustainable food, smart mobility and recycling. “The problem appears to be one of perception,” says Grierson. “The impact investment industry needs to do better at educating people that there are alternatives which will deliver a great return financially and a more secure future for them and the planet.”
Myth 4: It’s all just greenwashing
While there are isolated cases of greenwashing, in particular when funds fail to exclude industries like weapons, the sustainable investment sector continues to develop reliable metrics to ensure it delivers on its promises. A key issue is a lack of shared definitions. Rating agencies have differing scores and investment managers apply their own filters and definitions. Therefore, the quality of “responsibility” or “sustainability” in funds varies. “With such diversity in the ratings themselves and the scoring criteria used, and then the interpretation and use of these data points, it’s not unsurprising some are sceptical when looking at ESG funds,” says Amy Clarke, chief impact officer at Tribe Impact Capital, a wealth manager. “It highlights why the work of regulators globally, including the European Union on its Sustainable Finance Action Plan is so important; taxonomy and labelling are two of the ten-point action plan that aims to address this issue.” Sophie Lawrence, senior ethical, sustainable and impact researcher at Rathbone Greenbank Investments, echoes this point. “There is a need to build consensus on how to measure, assess and report impacts on environmental and social issues in a consistent way, to bring further credibility to ESG investing,” she says. “The Impact Management Project, a practitioner community of over 2,000 organisations including Rathbone Greenbank Investments, has gone some way in doing this.”
Myth 5: You need a financial adviser to invest responsibly
Just like dating, which no longer requires a matchmaker, investing no longer relies on a middle person. For decades, investing was the preserve of a small group of the well informed and sustainable investing even more so. But over the last two decades, the rise of the internet has brought investing to a larger group of people. Self-directed investing is accessible from as little as £25 or £50 a month, which enables those who have historically kept their cash in a savings account to access the stock market directly, without needing a financial adviser. Most investment platforms have ESG funds on offer and some platforms, such as EQ Investors, exclusively focus on investing in companies with a positive impact. “In 2020 you don’t need a financial adviser to invest ethically,” says Clim8 Invest’s Grierson. On digital platforms, people can choose their own funds as well as opting for curated portfolios. When assessing how green an investment is, Grierson says, “our primary filter is the impact a company is making on reversing climate change, and then the expertise of the management team and how sustainably run the business is”.
Myth 6: It’s just for millennials; retired people don’t want to invest sustainably
It’s often said that sustainable investing, just like takeaway lattes and balayage hair dye, is the preserve of millennials. It’s true sustainable investing appeals to most millennials. In 2019, a Morgan Stanley Institute for Sustainable Investing survey of investors found 95 per cent of millennials express an interest in sustainable investing. But so did 85 per cent of the general population. The Great British Retirement Survey by interactive investor revealed that only 50 per cent of retirees in the UK aren’t interested in ethical, or sustainable, investing. Meanwhile, 31 per cent of those who are already retired are interested and 19 per cent already invest ethically. What’s more, 56 per cent of all UK investors have increased their allocations to ethical funds over the last five years, according to KPMG. John David, head of Rathbone Greenbank Investments, says their clients span the full age spectrum from youngsters with Junior ISAs to nonagenarians. “Many of our clients are retirees, choosing to invest their portfolios in line with their values,” says David. He concedes that millennials are an important driver of sustainable investment, but social and environmental interests are apparent in all age groups, from Greta Thunberg to Sir David Attenborough.