Is the era of ESG investing over?
Last week, the summit held by French president Emmanuel Macron failed to bring about strong financial commitments to help support countries at risk of climate change. One answer commonly thrown around is private capital. But ESG investing, once on what seemed like a never-ending uphill trajectory, has come under increasing scrutiny after high profile accusations of “greenwashing” – not to mention oil and tobacco companies scoring highly on the S&P’s ESG index. Many investors are now wondering whether investing for good actually does any good.
Like many others, the sector has also been battered by market turmoil and inflation, and some investors have pulled out of ESG investments altogether. Indeed, May 2023 was the worst month on record for withdrawals from ESG funds–with investors pulling more than £300m. This comes off the back of a rough year, as 2022 saw investors pull more money out of ESG funds than they added for the first time in a decade.
The prevailing narrative is that when times are tough, investors will prioritise returns over their values. While several cornerstone studies have demonstrated that ESG performance is correlated with higher returns, conflicting analyses have dented the sector’s reputation.
Despite the recent challenges, ESG investing remains a significant part of the global finance sector. ESG funds manage nearly $2.7tn in assets. Only one-quarter of sustainable assets under management are held by retail investors, with institutional investors making up the rest.
At the same time, retail investors hold about half of all global assets under management—a figure that is predicted to rise over the coming years. Convincing retail investors to enter into the ESG market will be an uphill battle, not simply in light of the recent controversies, but because many of them don’t know what it means. According to research from Opinium and Atalanta, 60 per cent of retail investors in the UK are not familiar with ESG investing—and more than a third had never even heard of it.
But nearly half of those investors surveyed were interested in the sector. This strong interest is motivated by a desire to make a positive impact, align their investments with their personal beliefs, and access companies that will create long-term value.
To capitalise on this interest, asset managers need to employ a proactive approach around ESG investing, directed at retail investors. The language they use when talking about it needs to be simplified and demystified. Currently, most of the language about ESG investing is geared towards an expert audience of institutional investors. This isn’t cutting through to retail investors—and is probably actively turning them off.
They also need to consider differences in investment behaviours based on gender. The awareness gap amongst women investors is particularly stark, with 66 percent saying they were unfamiliar with ESG investing—compared to 53 percent of men.
Of course, building trust is first and foremost. And the sector will need to prioritise realigning on ratings benchmarks, so people who do put money in ESG funds don’t see it go towards causes that could in fact be harmful to the environment.
These rating benchmarks are one of the top criteria that UK retail investors use to decide which funds to invest in. Yet the lack of standardisation in scoring criteria have created significant confusion even amongst seasoned professionals–let alone retail investors.
Asset managers will also need to focus on demonstrating performance and impact. While there are strict regulations about how they can talk about performance, the ability to demonstrate returns will be critical for both retaining current investors and attracting new ones, particularly in the current economic climate.
Having a moment of uncertainty in the sector is no bad thing, especially if it means there is a fresh look at how ESG funds function and are measured. Without action across the sector to align around standards and improve awareness, the current shift away from these investments risks undermining confidence in the ability of the financial sector to support positive change across the globe.