Environmental, social, and governance (ESG) have been more than just buzzwords in the investing community. While these non-financial factors are not required in financial reporting in the United States, investors are increasingly taking notice of funds that do incorporate ESG criteria and research into their investment process and philosophy. While the quality of a business’ leadership and corporate governance has been included in financial analysis for a long time, our changing climate and the global COVID-19 pandemic have brought both environmental and social considerations back to the forefront of the conversation.
An increasing number of investors have been focusing on ESG not only because of its alignment with long-term investing but also because of the added impact bonus of creating positive externalities. ESG investing is a field in early adolescence. Many of the terms, such as “ESG integration”, can represent a broad, vague stamp that can have different standards, meanings, and intentions for different fund companies. Distinguishing funds that incorporate complete ESG analysis on companies from those that only applying negative screening or specific value investing can be a challenge—lines get blurred. On top of that, how can an investment manager efficiently and accurately source all the material, non-financial ESG data from their investment universe? There certainly is no lack of obstacles that lay ahead.
Even with all the inherent complications, ESG investing has shown its resilience and necessity. It’s no longer enough for companies to provide glossy commentary and do nothing. Capital flows are increasingly forcing the hand of companies to not only publish their own sustainability reports but to include ESG metrics in their financial statements. Just this past week Boeing released its first-ever sustainability report. In this report, Boeing committed to having its entire commercial fleet certified to fly on 100% sustainable aviation fuel by 2030. With this target now in place, the investment community has a metric to which it can hold Boeing accountable. Valuations and standard reporting will increasingly include ESG metrics alongside financial ones. Companies will be rewarded for hitting their targets and improving their impact on the environment and its stakeholders. The steps taken today will help to decrease financial, reputational, and environmental costs down the road.
So, what does the current landscape look like in terms of flows and assets under management? Total AUM for ESG/SRI funds is roughly $537.1 billion—75% represented by actively managed funds.
Actively managed funds make up the majority of AUM for both the equity (68%) and fixed income (94%) universe. When we look at high-level flows, the inflows have been drawn to the passively managed ESG/SRI funds. Passive ESG/SRI equity funds have attracted $65.8 billion in net new money since the start of 2020. In fixed income, however, actively
managed ESG/SRI fixed income funds have taken roughly 73% of the inflows over the same period.
Active equity funds (including both conventional funds and ETFs) have been suffering from monthly outflows in all but one month since the beginning of 2020. One small bright spot for the group has been actively managed ESG funds, which have seen inflows in 14 of the past 18 months.
No matter how you slice and dice it, the ESG investing community is growing each month. We certainly need more standards and transparency, both surrounding how companies report their ESG metrics and how individual funds choose to incorporate ESG analysis as part of their overall investment process. ESG data, at the very minimum, helps to paint a more complete picture of the overall standing of a specific company and fund.
Check out this week’s fund flow trends here!
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