The popularity of environmental, social and governance investing has sparked quite a backlash over the last year and that’s causing some to wonder what the impact will be on the movement.
Ron DeSantis, Florida’s conservative governor who is preparing a presidential run, is leading the charge against ESG in the U.S. He heads an alliance of 18 Republican governors determined to root out “woke” ESG investments from state pension funds and elsewhere at state and local levels.
Meanwhile in Washington, the Senate overturned a federal rule that allows retirement plans to consider ESG factors when choosing investments. President Joe Biden issued the first veto of his presidency to block that resolution.
The right-wing politicians behind these efforts argue that public pension systems and other public investment funds should be focused solely on maximizing returns, not trying to achieve ESG goals.
One of their prime targets has been Laurence Fink, CEO of Blackrock, the world’s largest asset manager. Fink made ESG a focal point of his annual letters to investors in recent years, drawing attacks from anti-ESG activists and leading state governments to pull about $4 billion from Blackrock investments.
In Europe, the questions about ESG are mostly coming from the other end of the political spectrum. There, support for socially conscious investing remains strong, but EU regulators and activists have hit alarm bells over concerns that investment funds are greenwashing or making exaggerated green claims to attract ESG dollars.
Despite these controversies, ESG investments continue to grow around the world. PwC estimates ESG-related assets under management will grow to almost US$34 trillion by 2026 from US18.4 trillion in 2021.
In our portfolios, ESG portfolios underperformed those tracking the wider markets last year because of a strong performance by oil and gas stocks, which are underweighted in ESG funds.
The effect was particularly pronounced in the energy heavy Canadian market where the iShares ESG Advanced MSCI Canada ETF returned -14.3% last year compared to -5.9% for the iShares Core S&P/TSX Capped Composite ETF. In the U.S. stock market, ESG created a drag of between 2% and 5% in 2022, depending on the ESG index methodology.
In global equity, a tilt toward value stocks in the ESG fund we use – the Dimensional Fund Advisors Global Sustainability ETF – offset ESG underperformance in wider market indexes.
It’s important to remember that while underweighting oil and gas hurt ESG fund performance in 2022, it helped in the two years before that when oil prices languished.
The bottom line is that ESG investors should expect volatility and periods of over- and under-performance to continue as the world moves towards net zero emissions. Most ESG investors accept divergence from wider stock market indexes as the price to pay for supporting environment and social responsibility.
At the same time, we applaud moves by regulators in Europe and elsewhere to discourage greenwashing and ensure that ESG funds are investing in a way that encourages real change by corporations.
In this light, I recall my excellent conversation with Alyson Slater, who was recently appointed to the Canadian Sustainability Standards Board. Alyson underlined the importance of work currently underway to come up with common global definitions, corporate reporting standards and metrics for sustainability disclosure.
There is still a lot of work to be done to improve the consistency of measurement and disclosure of ESG metrics among publicly traded companies, but ESG investing is hardly the evil force that some politicians and market participants are making it out to be.
Source: Morningstar Direct