Just when the sustainable investment began to carburete, the engine has seized. The concept of investing with awareness is not new. The first experiences are from the 60s. But it has been since 2020 when a legion of managers have decided to invest with criteria aligned with the fight against climate change and the fight against other social problems.
Sustainable funds are one of the categories that has attracted the most money in the last two years. This movement has been driven by the regulatory push of the European Union and by the firm conviction of firms such as BlackRock or Natixis. But the war in Ukraine, the energy crisis and legislative doubts have caused some cracks. In addition, the stock market falls in recent months have particularly hit this type of investment, which had opted for technology and renewables and avoided oil and gas.
Given this scenario, the small investor wonders if sustainable funds are as green as banks sell them. Do you invest only in non-polluting companies? Are they always going to be less profitable than conventional funds or can they become more profitable? Are the managers falling for the laundering of sustainability?
For the time being, the current regulatory uncertainty is calling into question the bases on which this industry has grown, although the managers specialized in ESG defend the long-term attractiveness of strategies that reflect clear future investment trends. There are two milestones that have marked investment with environmental, social and good corporate governance (ESG) criteria in recent years.
On one hand, the Paris Agreement of 2015, that led governments to adopt credible commitments to reduce polluting emissions and thus curb global warming. This translated in Europe into pioneering legislation to encourage the financial sector to help the energy transition, both by financing green projects and promoting sustainable investment funds. On the other hand, in the Glasgow Summit 2021 an alliance of large asset managers from around the world was created, conspired to try to encourage this type of investment.
- SFDR Regulation. This community regulation strictly rates the type of funds that can be marketed with the sustainable or green label. Article 9 funds are the purest and have to prove that they pursue a measurable extra-financial purpose (such as a decarbonisation objective). And one step below are the Article 8 funds, which only have to have a generic sustainable vocation. The lack of legal definition has led many managers to revise the labeling downwards and convert their Article 9 funds into Article 8, which has provoked much criticism from small investor associations.
- green mifid. Starting this summer, all fund distributors and financial advisors are required to ask their clients if they want the products they invest through to have some kind of environmental, social or good corporate governance component. The fact that clients have to take their pictures has been a major impetus for the increased commercialization of green funds.
- taxonomy. One of the criticisms that the asset management manager has leveled against the European institutions is that they have wanted to move too fast in this area, without the concepts being clearly defined. In the environmental field, concepts such as the goal of zero emissions or the energy transition are beginning to be defined. But with regard to investment with social and good governance criteria, there is still work to be done in terms of taxonomy.
One of the advances promoted by the European Commission is the approval of the Disclosure Regulation on Sustainable Finance (SFDR, for its abbreviation in English). This regulation requires since March 2021 that each fund be presented to investors with a label that clarifies how sustainable it is. There are two categories of ESG funds: Article 9 funds are the most sustainable, the black-legged funds, and have to prove that they pursue a measurable sustainable investment objective; and the Article 8 funds, also called light green, promote environmental characteristics in a more generic way.
These two types of funds (article 8 and 9) accumulate 4.3 trillion euros in investments and the dark green funds have doubled in one year. In 2022, in the midst of the financial crisis, Article 9s have grown by 31,000 million euros, until the legal uproar came.
However, since the beginning of November several managers began downgrading their best ESG funds, moving them from article 9 to article 8. Firms such as Amundi, Pimco or BlackRock have decided to review their labeling, given the doubts generated by the legislation and the problems they might have to prove that they are investing with the highest sustainability standards.
Legal problems are not only in Europe. In the United States, the market supervisor, the SEC, agreed last week to a fine of 4 million euros with Goldman Sachs for failing in its ESG investment policies. Six months earlier it was BNY Mellon who was penalized with 1.5 million. And last year the SEC seized the offices of DWS, the fund manager of the German bank Deutsche Bank, for selling funds that were not ethical or green. DWS’s CEO was forced to step down and the bank began an internal investigation process.
Rebeca Minguella, founder of the ESG data analytics firm Clarity AI (one of the most important in the world) is one of the people most aware of the evolution of this trend in the financial industry. In her opinion, the regulatory problems that are emerging are “to be expected”, taking into account how quickly legislation is being passed on this matter. “But these problems should not make us lose focus on the importance of the financial and investment worlds contributing to combating the problem of global warming.”
When it comes to questions about whether ESG investments are really as green as they seem, the answers are highly nuanced. In a recent investigation by a consortium of media (including The country) it was found that 46.3% of the most sustainable funds (article 9) held shares or bonds of companies that exploit fossil fuelsmain responsible for climate change.
Jens Peers, CEO of the Natixis manager in the United States, acknowledges that some decisions are difficult to understand. “Investing in an old oil company because it has committed to making an energy transition? It’s hard. This is the case of Aramco, the world’s largest oil company. It has announced investments in renewables, but this is a tiny part in relation to all the oil it extracts, ”he points out.
In the United States, sustainable investing has even been politicized. From the Republican Party, highly conditioned by Donald Trump’s denialist position regarding climate change, pressure is being placed on large managers to stop this trend. This week, the state of Florida, governed by the new Republican star Ron DeSantis, has decided to withdraw a 2,000 million dollar investment that BlackRock managed due to the firm’s ESG commitment.
Some of the firms specialized in sustainable investment, such as the Dutch Robeco, are beginning to rebel against the harsh criticism that is being leveled at this type of funds. Rachel Whittaker, the firm’s director of sustainable investing research, acknowledges that there may be a problem with sustainability data, “but with pure financial data there are often problems as well, as the succession of accounting frauds demonstrates. On the other hand, in these cases the managers are not criticized”.
Another added problem for this type of investment is the poor profitability results that have been achieved in recent quarters.
When some of the main green funds of the Spanish managers are analyzed, both on the stock market and on bonds, the losses in 2022 are between 5% and 15%. If a period of three years is analyzed, few have managed to have a positive result.
Over the past 12 months, sustainable funds have underperformed relative to market indices. “The explanation is very clear,” explains Francisco Quintana, director of investment strategy at ING. “These types of products tend to have a greater weight in the technology sector, which has performed worse since the Federal Reserve began raising rates. But in the long term we are clear that all companies will follow the energy transition. If you look at the performance in the preceding years, the sustainable funds have done extremely well.”
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