For years advisors have been told that sustainable funds can help align investments with client preferences without forfeiting profits. Now there’s growing evidence that those funds can actually deliver better returns than other more traditional funds.
A recent report in Barron’s found that 37% of large-cap U.S. stock funds with “above average” or “high” sustainability scores in Morningstar’s database outperformed the S&P 500 index — which has an “average” sustainability rating — compared with just 28% of conventional large-cap funds.
Barron’s analyzed 203 funds that had more than $300 million in assets each, ranking them by performance for the 12 months ended Sept. 30. Seventy-six funds outperformed the S&P 500 index. A similar analysis by Barron’s last year found that 25% of comparable sustainable funds beat the index compared with 12% for large-cap U.S. stock funds.
Morningstar data also finds that many sustainable funds perform better than expected. Within its universe, 38% of sustainable funds have either four or five star ratings while 23% rate one or two stars, when both numbers should be close to 33% based on expected distributions, according to an analysis by Jon Hale, head of sustainability research.
“Sustainable investing is simply smart investing,” reads the lead sentence on the section of BlackRock’s website dedicated to the topic.
BlackRock, State Street and Morgan Stanley are among a growing number of financial firms offering investment products that focus on sustainable investing, calling on corporations to disclose their ESG (environmental, social and governance) practices and opposing corporate managers who don’t in their proxy votes.
UBS has invested more than one-third of its assets under management, or $1 trillion, in sustainable strategies and has plans to create sustainable investing ETFs for retail investors, annuities and retirement funds. Goldman Sachs has about $10.6 billion of ESG assets under management compared with $500 million at the time of its acquisition of Imprint Capital two years ago.
“ESG is the GPS of investing,” says Jeffrey Gitterman, co-founding partner of Gitterman Wealth Management. “It provides current information about the challenges a company faces and helps you avoid the Equifaxes, Valeants and Volkswagens. Studies have shown overwhelmingly that companies that score better on environmental, social and governance issues have better performance.”
They are also the companies that attract millennials, the country’s biggest population bloc, which can reduce the turnover of employees, one of the highest costs of a corporation, and impact profitability, according to Gitterman.
Patrick Drum, portfolio manager of the Saturna Sustainable Bond Fund (SEBFX), says that companies engaged in sustainability “have a broader shared value” not only with workers but also with consumers, suppliers and investors. “These are the ingredients that drive successful performance and not just what reduce risk.”
A recent analysis by the Morgan Stanley Institute for Sustainable Investing found “a growing recognition among analysts, investors and global businesses that sustainability can significantly affect a company’s value and reveal rising analyst and investor interest in how ESG risks and opportunities factor into corporate performance.”
But Betsy Moszeter, chief operating officer of Green Alpha Advisors, which specializes in sustainable investing, says investors should learn exactly what a fund that calls itself sustainable or ESG-focused owns, including the characteristics of those holdings. “Are they best of breed? Better stewards in their sector? Using negative screening? We have clients that fired their previous advisor because they had bought a sustainable fund, then looked at the holdings and were horrified.”
Her firm’s funds emphasize “companies that produce the innovative products of the future,” says Moszeter, adding that they “will steal market share from their legacy counterparts.”
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