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November 19, 2020

Doing Good Costs Investors Less

by Dewi John.

The resolution of the US election has seen the calming of global renewable stock gyrations, with president-elect Joe Biden committed to renewables, rather than the incumbent’s fondness for fossil fuels.

However, Refinitiv Lipper research shows that, whatever the trajectory of the energy market over the coming months, UK fund investors are now paying less for ESG vehicles than they are for their non-ESG equivalents.

Bells and Whistles

At first pass, this is surprising. Making a (no-doubt huge) generalisation, asset managers earn their meagre crust by the number of bells and whistles that come with a fund—the more bells and whistles, the higher the charges. You might assume that ESG—whether through negative screening, engagement, or integration—comes under the heading of bells. Or, perhaps, whistles. But our analysis suggests differently.

Charges—expressed as total expense ratios—have trended down consistently, whether active or passive, ESG or ‘regular’. But what’s noticeable is that ESG funds have fallen faster and are now no more expensive than the alternative. Indeed, albeit by a narrow margin, they are cheaper (chart 1).


Chart 1: Total Expense Ratios of UK Funds, ESG v non-ESG, 2010-2019 (%)

Source: Refinitiv Lipper


ESG ETFs and passive mutual funds became cheaper than their broad market alternatives in 2016, with the latter seeing the most dramatic decline in fees—from an average TER of 1.45% to 0.45% over the course of the decade, and going from almost double the cost of ‘regular’ passive mutual funds to less expensive—albeit by just 2 basis points (bps).

Less dramatically, but still on trend, in 2010, the average TER of ESG ETFs was 15 bps more than its non-ESG equivalent. By 2019, it had become 8 bps cheaper.

Active mutual fund expense ratios have taken longer, with ESG TERs dropping below their non-ESG equivalents only last year, and by the smallest of margins. While it’s too small to say whether this will be durable, the gap was 20 bps a decade ago, and this direction of travel has been consistent over that time.

Lower Turnover, Higher Volumes

One possible reason is that ESG funds tend by their nature to have lower trading costs, as they should be investing in sustainable businesses for the long term. However, that’s likely more the case for active than passive, and the trend we’re seeing applies to both.

A further possibility is that ESG vehicles are attracting ever-larger amounts of money (chart 2). The combined value of all UK-registered funds has risen from £41.7bn to £66.1bn between October 2016 and October 2020. Equities have made up more than half the total throughout, though their domination is reducing as more ways to invest in a wider range of ESG assets come into play.

Chart 2: UK ESG Assets Under Management, 2016-2020 (£bn)

Source: Refinitiv Lipper.
All mutual funds and ETFs registered for sale in UK, with reporting currency in sterling


As ESG assets grow, this generates economies of scale, and therefore the potential to lower unit costs. Nevertheless, ESG volumes are still a fraction of the market, so this can only explain the trend, not absolute levels.

While we can identify contributing factors, the overall reason isn’t clear. And I’m not ready to attribute it to fund manager magnanimity just yet. Whatever the reason, it is beginning to look like ESG investors are getting something, if not for nothing, then for less than the broader market.

Heaven on Earth?

It therefore looks like these investors may not have to wait for the next life to receive their reward for doing good in this. With lower fund costs and growing evidence of outperformance, they are benefiting from a virtuous double whammy.

Which brings me to a note on that performance. Over the course of this annus horribilis, ESG outperformance has been variously attributed to dodging oil and gas stocks or loading up on FANGS. The Financial Times’ US financial editor even goes so far as to argue that ESG’s “win-win argument [of higher returns and better outcomes] doesn’t even make sense” and that “sometimes investors have to choose between their values and their pocket books”.

Sometimes they will. Sometimes children are better stock pickers than professionals, but I’m still not going to hand my pension funds over to my kids. Not yet anyway.

Avoiding Potholes

I’m not convinced by these objections. They miss the point that ESG isn’t so much about adding on the upside, but avoiding the potholes that can gouge a hole in your returns. ESG isn’t a display of stock-picking pyrotechnics. It steers you away from the downside, whether from opaque management, reputational damage through poor labour relations, or regulatory action resulting from lousy resource management. Or, indeed, any combination of the above, with which markets continuously surprise the unwary investor. From BP to Nike, the markets are replete with examples.

Ultimately, ESG isn’t a magical source of ever-elusive alpha, it’s just prudent risk management. If you believe in the unalloyed genius of the star manager, you may fleer and scorn at such a pedestrian take—but then you’re probably still too busy scraping the remnants of your portfolio off the walls after the last star manager blowout.

Hopefully, in the grown-up world, prudent risk management is something we all want.

Don’t we?


Refinitiv Lipper delivers data on more than 330,000 collective investments in 113 countries. Find out more.


The views expressed are the views of the author and not necessarily those of Refinitiv. This material is provided as market commentary and for educational purposes only and does not constitute investment research or advice. Refinitiv cannot be held responsible for any direct or incidental loss resulting from applying any of the information provided in this publication or from any other source mentioned. Please consult with a qualified professional for financial advice.

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