Close Close
Popular Financial Topics Discover relevant content from across the suite of ALM legal publications From the Industry More content from ThinkAdvisor and select sponsors Investment Advisor Issue Gallery Read digital editions of Investment Advisor Magazine Tax Facts Get clear, current, and reliable answers to pressing tax questions
Luminaries Awards

Portfolio > Portfolio Construction > ESG

How ESG Data Affects Investors’ Fund Choices: Morningstar

Your article was successfully shared with the contacts you provided.

Advisors may wonder if it is important to present sustainable fund data to clients, especially during turbulent times.

The answer: Not only will that information help investors choose funds, it also will edge them toward not taking asset allocation shortcuts, according to a recent Morningstar behavioral study.

Global interest in environmental, social and governance funds is notable as they topped $1 trillion in assets as of June, while global inflows into sustainable funds were up 72% in the second quarter of 2020 to $71.1 billion, according to Morningstar.

In examining the phenomenon during the March collapse of the market, The Sustainability Stress Test Investor Interest in ESG Holds Up Amid a Pandemic, by Ryan Murphy, head of Decision Sciences, and Samantha Lamas, behavioral researcher, of Morningstar, asked whether interest in ESG investing would fall off in an economic downturn.

Their survey of 626 people found that ESG still was important to investors, which is backed up by the global inflows into those funds during the pandemic.

Inside the Numbers

Morningstar studied three groups: one that received standard metrics on 15 fund options without any sustainability ratings, another group that received additional sustainability information on the those options and a third group that was asked their personal preference around ESG considerations before receiving the same information as the second group.

Key findings were:

  • Investors still pay attention to their ESG preferences even during times of uncertainty and are swayed by a fund’s sustainability rating. “When ESG information is provided, the average ESG score of the portfolio increases: People vote with their dollars,” Murphy and Lamas noted.
  • ESG information helped investors look beyond past returns. Even if an advisor isn’t interested in ESG, information about it “can open investors’ minds from a myopic focus on returns to other aspects they consider important. This can be quite useful to allow for a more balanced and meaningful discussion with clients. ESG helps investors look beyond past returns,” the authors state.
  • Adding ESG information may exacerbate the problem that investors can be overwhelmed by too much information and resort to shortcuts. Advisors should “be careful to ensure that the underlying options presented to investors are properly diversified — since the addition of ESG information may cause concentration to a fewer number of funds,” according to the researchers.

Sustainability information definitely made a difference when it came to funds with subpar performance. For example, Royce Specialty Equity, which had a high five-globe sustainability rating from Morningstar but a “fairly low” five-year trailing return, basically was ignored by group 1, which received no sustainability information. But groups 2 and 3 ended up putting money into that fund.

“In other words, investors do seem to be swayed by a fund’s Sustainability Rating when making asset allocation decisions,” the researchers noted.

Further, as this survey was done in late March during high market volatility, it seems “that investors still pay attention to their ESG preferences even during times of uncertainty.”

Another question was whether ESG information helped investors overlook past returns, a common shortcut in selecting funds. For those in groups 2 and 3, there was less correlation between past returns and selection, leading researchers to believe the ESG data gave them another dimension to consider in choosing a fund.

Group 1, which didn’t receive ESG info, showed a high correlation between fund selection and past returns.

Too Much Information?

One issue the study raised was by providing ESG data, were researchers (and thereby advisors) “overloading” investors with information? To determine this, Murphy and Lamas compared standard deviation of each groups’ selection allocation diversification. A higher standard deviation showed someone invested in fewer funds.

The findings showed more information meant fewer funds were selected in a portfolio.

However, there was relatively little difference between groups 1 and 2, although there was a difference between groups 1 and 3.

“In particular, there appears to be a group of investors who ‘put all their eggs in one basket’ when they were presented with ESG information,” the researchers stated. “These individuals invested all their assets in one fund. This could be an example of ‘choice overload’ where people feel overwhelmed by options and information and therefore resort to simple rules of thumb.

“…But it does serve as a useful reminder for advisors to make sure their clients, regardless of their personal motivations, keep diversification in mind as they make their investment choices,” Murphy and Lamas noted.

— Related on ThinkAdvisor:


© 2024 ALM Global, LLC, All Rights Reserved. Request academic re-use from All other uses, submit a request to [email protected]. For more information visit Asset & Logo Licensing.