Over the course of the past few months, we have dissected the performance and risk and discussed the benefits and potential pitfalls of ESG investing. In our final ESG piece, we look at the growing popularity of ESG investing and look at some of the top performing ESG managers in this space.
Following the lead of communities and individuals, environmental responsibility and reducing carbon footprints have gained great corporate momentum over the past few years. This momentum has resulted in increasing investor demand for investment products that focus on environmental, social, and corporate governance (ESG) standards. Asset management companies have followed suit by increasing the number of ESG strategies that they offer, which has resulted in an influx of new assets. According to Morgan Stanley Institute for Sustainable Investing and Bloomberg L.P., one quarter or $12 trillion of U.S. assets under professional investment management are considering environmental, social and corporate governance principles.
According to EPFR Global, investors continue to pour money into mutual funds and ETFs focused on ESG and socially responsible investing. (Figure 1). During the three years ending 2018, all SRI/ESG themed equity funds attracted over $43 billion in net inflows.
Taking a closer look, SRI and ESG themed funds attracted flows ranging from 5.2% to 73% of assets under management (Figure 2). Meanwhile, outside the emerging markets equity group, all other funds experienced outflows as a percentage of assets under management during the year.
In a 2018 survey from Morgan Stanley Institute for Sustainable Investing and Bloomberg L.P., over 300 U.S. asset management professionals provided insight on the driving forces behind the demand for SRI/ESG investing. Three-quarters of the respondents said their firms had adopted sustainable investing, up from 65% in 2016. Meanwhile, 29% of the survey participants said their firms were adopting ESG strategies to capture new assets under management, followed by high growth potential (29%), because investors expect it (26%), for the well-being of the environment (26%), and to demonstrate integrity (24%).
Asset management firms are also broadening the type of investment vehicles that incorporate ESG principles. Mutual funds remain the most popular vehicle, as 62% of the responding participants offer ESG mutual funds, followed by alternatives (55%), exchange traded funds (51%), and separately managed accounts (45%).
In our previous ESG article, we stated that there are numerous interpretations of ESG principles, which leads to more demand for customized investment vehicles, as one-size-fits all investment products don’t necessarily fit all. The survey confirms this, as 68% of the respondents anticipate that the future growth in ESG investing will consist of customized products and portfolios rather than standard products, which leads us to separately managed accounts (SMAs).
When looking at the inherent benefits of SMAs — increased transparency and customization, professional investment management, and enhanced tax strategies — one can see why SMAs are an ideal investment vehicle for investors looking to invest in environmentally conscious companies. Investors have different ideas of what constitutes a socially and/or environmentally conscious company, so the transparency and customizability of SMAs helps with the ambiguity of SRI/ESG classifications.
In Figure 3, we display some of the top performing SRI/ESG managers over the past five years from the PSN Global Manager Neighborhood database. As you can see, these strategies hold their own based on return, risk, and return-risk metrics against the broad, S&P 500 index.
Individuals and corporations alike are putting a greater emphasis on reducing their carbon footprint, which provides investment opportunities for investors. As you can see from Figure 3, investment management companies are listening, as they are providing investors with an expanding array of compelling stories.
Today’s investment world is evolving to make it easier and more accessible for financial advisors to help their clients achieve their investment and/or moral objectives. The demand for ESG investing is growing, whether that is at a corporation incorporating improved social governance, or an asset management firm looking to improve the well-being of the environment, or an individual looking to vote with their wallet.
Ryan Nauman is a Market Strategist for Informa Financial Intelligence’s Zephyr. His market analysis and commentaries are available at www.informais.com/blog.