Sustainable investing goes back to 2006 when the United Nations launched a voluntary initiative, Principles for Responsible Investment (PRI). The initiative called upon investors to consider environmental, social and corporate governance (ESG) when making investment decisions. Since then, sustainable investing has undergone a sea change. The Paris Climate Agreement of 2015 was the turning point for ESG. Statistics show that sustainable investing is rapidly evolving. So buckle up to see a lot of numbers.
What is Sustainable Investing?
The US SIF defines sustainable investing as “an investment discipline that considers ESG criteria to generate long-term competitive financial returns and positive societal impact.” However, the definition lacks depth around ESG criteria.
Over 100 organizations produce Global Initiative for Sustainability Ratings (GISR), including Morningstar’s Sustainalytics, Bloomberg, and Thomson Reuters. There is a huge gap in each company’s sustainable investment data due to confusion around what is sustainable. However, standardization is spreading. In the fourth quarter, Morningstar reclassified funds, removing more than 1,600 European funds from the sustainable list.
The Growing Interest in ESG Funds
ESG fund assets are growing dramatically because of new product launches, money inflows, and fund re-brandings. According to Morningstar Direct, global ESG fund assets increased 66% year-over-year (YoY) to $2.74 trillion in December 2021. The number of global ESG funds grew 43% to 5,932.
- Europe was more developed, accounting for 81% ($2,231 billion) of global ESG fund assets and 75% (4,461 funds) of the total number of ESG funds.
- The United States came second with 13% ($357 billion) of ESG fund assets and 9% (534 funds) of total ESG funds.
While the U.S. lags behind Europe in sustainable investing, it is playing catch up. According to Morningstar’s Sustainable Funds U.S. Landscape Report:
- The US ESG fund assets grew 51% YoY to $357 billion as of December 2021. This represents 1% of the total US fund market.
- This growth came as the net inflow increased 35% YoY to $69.2 billion in 2021, especially in ETFs ($39.6 billion).
- Around 20% of the $69.2 billion net inflow came in three BlackRock ETFs: iShares ESG Aware MSCI USA ETF, iShares ESG Aware MSCI EAFE ETF, and the iShares Global Clean Energy ETFs.
- BlackRock’s two new ETFs, BlackRock US Carbon Transition Readiness ETF and BlackRock World ex-US Carbon Transition Readiness ETF, were the most popular ESG ETFs launched in 2021.
- Actively managed funds saw significant outflow, which reduced their share in sustainable assets to 60% from 80% three years ago.
As of March 2022, the 10 largest US sustainable mutual funds had over $95 billion in assets under management (AUM).
Sustainable Investing Statistics
Morningstar data differs from the Refinitiv Lipper data but they both show a similar trend.
- Global ESG funds’ net inflow surged 20% to $649 billion as of November 2021, driven by a strong inflow in U.S. and Asian ESG funds.
- Global ESG funds had $6.1 trillion in AUM, accounting for 10% of worldwide AUM.
- Europe, the Middle East and Africa (EMEA) held 59% of ESG AUM.
Global Sustainable Investment Alliance (GSIA) showed that global sustainable investment surged to $35.3 trillion in 2020 from $30.7 trillion in 2018. Bloomberg Intelligence expects ESG AUM to reach $53 trillion in 2025, accounting for 33% of global AUM.
Unlike Morningstar, the US SIF Foundation’s Report on US Sustainable and Impact Investing Trends used a survey-based methodology. Thus, it had a higher sustainable AUM than Morningstar. According to the US SIF report, $174.1 trillion AUM was in US ESG funds in 2019, of which $4.2 trillion was for climate change.
Other Sustainable Investment Instruments
While ETFs and mutual funds are the most popular sustainable investing instruments, debt and alternative investments are catching up. Alternative investment funds include private equity and venture capital funds, hedge funds, and real estate investment trusts.
- Sustainable bond issuance exceeded $1.6 trillion in 2021. Over $620 billion was issued in green bonds, as per data from BloombergNEF.
- The number of ESG-focussed alternative funds grew to 905 in 2020 from 780 in 2018. These funds AUM increased to $716 billion in 2020 from $588 billion in 2018.
What Do Investors Think about Sustainable Investing?
While the above data gives you a macro view of the total amount invested in sustainable initiatives, the ground reality is different. It is true that investors, especially millennials, are showing interest in sustainable investing, but it is not their priority.
A 2021 study by Morgan Stanley found that 79% of U.S. investors (99% of millennials) are interested in sustainable investing, down from 85% in 2019. This 6-percentage-point decline came as investors were pessimistic about economic growth and questioned the performance of sustainable investments. The survey showed that 70% of investors (83% millennials) think sustainable investing implies a financial trade-off.
A 2021 survey by Gallup Panel showed a similar outcome, where interest in sustainable investing dipped from 52% in February 2020 to 48% in November 2021. When selecting companies and funds to invest in, investors (78%) gave first priority to investment performance and then (35-40%) to ESG factors.
The Future is Sustainable
Even though performance overtakes sustainability in the current market, the kind of attention climate change is attracting is remarkable. Even though there is proof that ESG funds and ETFs do well in the long term, fear of an economic downturn puts sustainable investing on the back burner. This is an opportunity for value seekers to tap the long-term growth trends in business and investing. Sustainable investing is evolving as major economies target net-zero emissions by 2050.
The next 30 years could see several sectors like carbon capture and clean energy spring up, making ESG a mainstream asset class. ESG funds are seeing a significant surge in net inflows. They could use these cash flows to buy strong ESG-compliant stocks at a cheap price. This could help ESG funds outperform in the next three to five years. I wouldn’t be surprised if investors diversify their portfolios based on risk, reward, and carbon footprint.