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Two Steps Forward

Can Trump trump the ESG juggernaut?

Uncle Sam bursting bubble

GreenBiz photocollage

One constant throughout 2020’s parade of pandemonium is that investing in companies with high environmental, social and governance scores has been relentlessly gaining momentum. The pandemic, the recession, the social strife, the political hyperpartisanship, the growing climate crisis — none of this vertiginousness has knocked ESG funds and investment strategies off their remarkable growth trajectory.

This is big. Historically, ESG investing has been sidelined during trying economic times, largely for fear that it would tamp down returns. But recent data has shown quite the opposite: ESG funds are outperforming the overall market.

A few recent stats:

  • Research by S&P Global Market Intelligence found that funds investing in companies based on their ESG ratings are "relative safe havens in the economic downturn." It analyzed the performance of 17 ESG-focused exchange-traded and mutual funds with more than $250 million in assets from Jan. 1 through May 15. All but three outperformed the S&P 500, widely considered one of the best representations of the overall U.S. stock market.
  • Largely as a result, ESG funds in the United States set a record in the first quarter of the year, according to Morningstar. Estimated net inflows for the 314 open-end and exchange-traded sustainable funds available to U.S. investors reached $10.5 billion in the first quarter, easily eclipsing the previous record, $7.1 billion, set in 2019's fourth quarter.
  • High-net-worth investors are flocking to ESG investment vehicles for their positive social and environmental impacts, although financial performance is the main driver, according to Nuveen’s Fifth Annual Responsible Investing Survey. For the first time in the survey’s history, a majority of investors (53 percent) cited better performance in choosing these investments, seemingly shunting aside the misconception that investing responsibly means sacrificing returns.
  • It’s not just short-term returns. Morningstar also examined the long-term performance of 745 European-domiciled ESG funds and found that they outperformed non-ESG funds over one, three, five and 10 years.

So, money is pouring into ESG investments largely because they produce higher short- and long-term yields and are seen as less risky during turbulent times. Almost a no-brainer.

That is, unless you’re the Trump administration.

Last week, the U.S. Labor Department proposed updating its regulations to prevent pension-fund managers from investing in ESG products unless they can justify the decision based on "material economic considerations under generally accepted investment theories." In other words, only if they can prove they are pursuing profit first and foremost.

That may sound like a slam dunk given the superior performance and reduced risk of ESG funds cited above, but that’s not the case, say experts. The proposed rule, they say, would require fiduciaries to document the selection and monitoring of ESG products as designated investment alternatives. That is sufficiently onerous that it could dampen pension managers’ willingness to use these funds.

Moreover, not all funds that have relatively high sustainability ratings are specifically marketed as ESG products, something that might be lost on Team Trump, Heather Slavkin Corzo, head of U.S. policy at the United Nations’ Principles for Responsible Investment, told Investment News. And some non-ESG funds include language in their prospecti outlining ESG criteria used to improve performance or reduce risk, even though they are not marketed as ESG products.

Pension deficit disorder

The administration’s move comes at a time of a growing push for companies to align their employees’ pension and retirement funds with the company’s own sustainability commitments. After all, countless firms have committed to pursuing one or more of the Sustainable Development Goals, but their employees’ retirement funds often support fossil fuels and other unaligned investments. The World Business Council for Sustainable Development has led an initiative "to identify and address the common barriers inside companies that are keeping them from adding socially responsible funds to their retirement plans," as Bill Sisson, its North America executive director, wrote on these pages last year.

The Labor Department’s rationale for its latest move is a head-scratcher. The proposed rule "reminds plan providers that it is unlawful to sacrifice returns, or accept additional risk, through investments intended to promote a social or political end," said Labor Secretary Eugene Scalia.

But that check won’t cash. ESG funds are, as a whole, less risky. Morningstar found that diversified ESG funds have significantly lower levels of risk embedded in their portfolios. Fully 84 percent of diversified ESG funds receive the highest ratings, four or five globes, indicating the lowest risk, compared with only a third of funds in the overall universe.

So, why is the unabashedly capitalistic, free-market Trump administration putting the squeeze on ESG?

Simple: Opposition to ESG investing generally has come from companies whose stock stands to be excluded from such products — think fossil fuel, extractive and dirty manufacturing companies, among others — along with their usual cohort of pro-business, climate-denying lobbyists, such as the American Petroleum Institute, the National Association of Manufacturers and the U.S. Chamber of Commerce. They view investor ESG requirements primarily as a means of persuading companies to tackle climate change, human rights, social justice and other issues.

Which is, of course, exactly what they are.

So where are the countervailing forces — the lobbyists for the Goldmans and Vanguards and State Streets that have been aggressively pushing ESG investment products? The Calverts and HSBCs and others seeking to be seen as leaders? Is anyone out there pushing back on the vigorous efforts being made by the anti-ESG crowd? 

Who will step into the void? Or will we once again let those best able to buy influence steamroll progress? 

The Labor Department’s move is yet another transparent attempt by the Trump administration to sweep aside environmental and social considerations in the name of profits and prosperity. But profits and prosperity won’t come without a healthy social fabric and natural environment, led by the private sector.

Savvy investors know that, hence the ESG boom. It’s hardly a do-good trend. It’s risk management and profit maximization, pure and simple.

I invite you to follow me on Twitter, subscribe to my Monday morning newsletter, GreenBuzz, and listen to GreenBiz 350, my weekly podcast, co-hosted with Heather Clancy.

 

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