The rise of ‘ESG’ labelled funds
Despite the EU introducing labelling protocols for funds (hello Articles 6,8 and 9) and the UK looking to do something similar, we have seen massive growth in funds including words such as ESG, sustainable or responsible within the title, no doubt as a means to ride the wave of demand for such products. The FCA called this issue out in July 2021, and we have also seen Morningstar remove over 1,000 funds from its European sustainable investment list after reviewing the underlying investment mandates.
‘ESG’ means I will make money / ‘ESG’ stocks underperforming
There has been a significant influx of money into ‘ESG’ labelled funds, and this seems to have been driven to some degree by the view that ESG = ‘good and I won’t lose money. This is a bandwagon I want to be on’. That’s one common myth – incorporating responsible investment within your process does not mean that you are miraculously protected and are never going to lose money.
There is another myth that ‘ESG stocks’ have gone out of favour and that is the end of ESG. We have seen a period of market rotation where growth stocks, which had performed very strongly until recently, have started to lag as value came back into favour. A lot of companies that score well on ESG metrics (see section below on ESG ratings) tend to have growth characteristics, therefore ESG and growth stocks became conflated.
Oil
As the very different approaches to responsible investment have all been lumped under the wording ESG, the confusion over what this means, has grown exponentially. For example, how on earth can an ‘ESG fund’ own an oil company? Well, if the fund is focused on stewardship and ESG integration and the manager has a strong track record of engaging with oil companies then yes, it can. However, if this is being marketed as a sustainable fund, that would be a different story. At a recent financial adviser event the panel was asked whether we should sell out of two of the largest renewable companies in the UK - the punchline being that these are BP and Shell. Whether you should divest or engage is a much-debated topic – however under the responsible investment umbrella you can credibly pursue either approach.