Morningstar - Q4 2022 - 34

Spotlight: Here to Stay
In the U.S., the SEC has also gotten in the
game, proposing rules for companies on climate
reporting. Other rules would require fund
managers to disclose additional information on
ESG in official fund documents and require
funds with certain names to invest 80% of their
assets in investments suggested by that name.
Already, information available to investors
is getting better. This year, Morningstar removed
the ESG tag from more than 1,000 funds
because analysts tightened their criteria. (See this
issue's supplement for a list of funds that make
the grade.)
Regulators have bolstered enforcement. This year,
German police raided the Frankfurt offices
of Deutsche Bank DBK:GR and its asset manager
DWS after whistleblower claims by the firm's
former sustainability officer that it overstated its
ESG capabilities to investors. The investment
advisory division of Bank of New York Mellon BK
agreed to pay $1.5 million to the SEC to settle
charges of making misstatements about its
sustainable practices in six mutual funds. The SEC
is also looking at whether Goldman Sachs GS
mutual funds overstated their ESG capabilities.
There's a fear that regulations will require an
excessively large paper trail. Yet these regulations
will force asset managers and companies to
be clearer about how they're achieving what they
claim. They also provide directors with tools
to measure the issues they want to track. And
they give investors a level of comfort about
these metrics.
" Things have to be verified in a standardized
format. Right now, it's creating distrust between
companies and owners, " says Andrew Behar, CEO
of As You Sow, the shareholder advocacy nonprofit.
Meanwhile, fund names should accurately
reflect their ESG practices. " There is no connection
between a prospectus and its holdings, " Behar
says. In January, As You Sow published a study
of 94 mutual funds and ETFs with the word
ESG in their name. Based on the firm's criteria of
what makes a good ESG fund, 60 received
a D or an F grade.12
One possible outcome of the rulemaking is that
it will give large asset managers an even
greater opportunity to dominate fund flows. " They
have the resources, and if you're a new manager,
are you going to be overwhelmed by the
amount of disclosure? " says Vadim Avdeychik,
a partner at law firm Clifford Chance.
5 Sustainable Investing Is Growing...
Funds that focus on the integration of ESG
information, ESG exclusions, sustainability themes,
or impact assessments have gathered a
tremendous amount of assets. By 2020, global
sustainable funds totaled $35.3 trillion, or
more than a third of professionally managed
assets.13
In the U.S., they accounted for
$17.1 trillion, according to the US SIF Foundation.
The potential looks even larger as more investors
adopt ESG. By the end of 2021, the number of
signatories to the United Nations-backed Principles
for Responsible Investment, which works to
incorporate ESG factors into investment decisions,
had grown to 3,826 representing $121.3 trillion
in assets, up from 890 signatories and
$24 trillion just 10 years before. The signers
represent a majority of the world's professionally
managed investments.
6 ...Particularly Among Women and
Young Investors
More individual investors want to align their
investments with their sustainability preferences.
According to a Gallup poll, nearly half of
investors are very or somewhat interested in
buying sustainable investment funds.14
For young people, who will suffer the
consequences of climate change in the coming
decades, the numbers are much higher.
In a survey of U.S. individual investors who
are 18 years and older with minimum investable
assets of $100,000, 79% were interested
in sustainable investing. For millennials, who
will benefit from an estimated $30 trillion
wealth transfer, the number clocked in at 99%,
up from 95% two years before.15
" Most people try to make decisions in their lives
that are consistent with their beliefs, "
Morningstar's Hale says. " Their decisions
express who they are as a person. "
Sustainable funds, with their mixed bag of
approaches, are appealing in this context. Tobacco,
weapons, and fossil fuel are common exclusions.
Others might pursue a particular theme or
might focus on ESG risks and other opportunities.
The rise of direct and custom indexing is expected
to appeal to these investors. With direct
indexing, investors own a benchmark's underlying
shares but can exclude any company they
want. In the past year, Fidelity, Schwab,
and Vanguard have all introduced direct-indexing
products. Morningstar is set to launch a directindexing
product later this year.
" I haven't had any clients wanting to get out
of ESG, " despite this year's backlash, says
Haleh Moddasser, a Chapel Hill, North Carolinabased
financial advisor for Stearns Financial,
which runs $2 billion in assets. She oversees
gender-lens and ESG portfolios, as well as
conventional portfolios. She says that one client
chose Moddasser's practice because of
the focus on ESG. " This is a huge shift in what
consumers and investors want. "
7 Performance Is on Par
Sustainable funds are showing that they can perform
on par with traditional funds, Hale says. Until
this year, sustainable funds generally outperformed
their traditional counterparts. So far in 2022,
12 As You Sow. 2022. " New Study Quantifies Lack of 'Truth in Labeling' in ESG Mutual Funds and ETFs. " Jan. 11.
13 Global Sustainable Investment Alliance. 2021. " Global Sustainable Investment Review 2021. "
14 Saad, L. 2022. " Where U.S. Investors Stand on ESG Investing. " Gallup. Feb. 23.
15 Morgan Stanley. 2021. " Sustainable Investing Sentiment Weathers Economic Uncertainty. " Oct. 27.
34
Morningstar Q4 2022

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Morningstar - Q4 2022

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