04 September 2017
Funds that uphold ‘environmental, social and governance’ standards tend to outperform those that do not. Investors from
Car and Driver, an industry magazine, commented that it was “hard to take BYD seriously” because many of its cars seemed to be copies of older Japanese models, while their performance was lacklustre. “We drive faster in our driveways,” the magazine said.
The deal stands as an example of how investing in renewable technologies can pay off. Since 2008, BYD has become the world’s leading manufacturer of electric vehicles, surpassing the wildly popular Tesla, and in electric vehicle batteries overtaking
The BYD investment story is a small part of a much bigger trend. Investors are finding that if they are good to the planet and to people, they also end up, on average, benefiting themselves. There is mounting evidence that funds which observe environmental, social and governance (ESG) standards in their strategies tend to outperform those that don’t by a significant margin.
“It is time for ESG investing to become mainstream,” says
The outperformance of ESG strategies is beyond doubt. In emerging markets, the trend is particularly pronounced: the
The effect is equally pronounced on a global level. Four indices devised by FTSE Russell, a leading index provider, which select companies involved in energy efficiency, water technology and other green applications, have all garnered better returns than their benchmark, the FTSE Global All Cap Index. Separately, inflows of capital into ESG index-tracking funds on BlackRock’s iShares platform reached a record
The ESG phenomenon has blossomed in spite of an absence of detailed, globally-agreed definitions on what constitutes ESG standards. Indeed, the trend feels more like a freewheeling movement with index providers, investment managers, pension fund executives and others making discretionary decisions.
The rationale behind such investing is multi-faceted. It seeks to capture the opportunity represented by clean technologies, such as renewable energy - made more cost effective by mass production in
It is also an attempt to manage risks from the increased incidence of devastating weather events including tropical storm Harvey, which hit
From a social perspective, the aim is to weed out companies that show scant regard for workers’ welfare and return little to the communities that serve them. For governance, the goal is to filter out state-run companies that engage little with minority shareholders, businesses with opaque disclosure standards and those riven by conflicts of interest and other abuses.
“There is a necessity to protect a portfolio against downside risks and this is the number one aspiration of our clients,” says Ms
Although ESG is still evolving as a concept, the pull it exerts over investors appears to be reaching critical mass.
In July, Japan’s
In the same month,
Estimates of the total value of funds allocated to ESG investments are beset by classification problems. But the
Not everyone, however, is convinced. Sceptics argue that the outperformance of ESG indices in recent years is merely a cyclical blip, born partly from the sputtering commodities supercycle and lower oil prices. If such “old economy” stocks, which are typically not included in ESG strategies, come roaring back into fashion then ESG will be exposed for the mirage it is, they say.
Others argue the lure of “green” companies has been artificially enhanced by state subsidies doled out to meet pledges under the 2015 UN Paris climate accord. If these are stripped out, critics say, the economics of renewable energy, electric vehicles and other clean tech sectors would look much more flimsy.
Even some investors who subscribe to the ESG creed express frustrations.
Critics complain that those indices that embed ESG considerations in their company selections are often skewed towards a specific theme, such as carbon footprint reduction. Such preoccupations make them niche products only, while those that select from a broader set of ESG criteria can end up filtering out so many companies that they offer too narrow a universe for investors.
But in spite of such arguments, the job of devising clear regulatory guidelines for ESG investing is gathering pace. Since the UN Principles for
“A critical accelerant of ESG adoption is regulation and soft law,” says Manulife’s
It took years before the general scepticism towards green technologies gave way to acceptance. Now such technologies are mainstream, with renewable energy, for instance, accounting for more than half of new power capacity worldwide last year. A growing number of big investors are betting that ESG will follow the same trajectory.
Copyright The Financial Times Limited 2017
(c) 2017 The Financial Times Limited