By Ben Matthews, Investment Manager at Heartwood Investment Management.
Sustainable investment is subject to a considerable number of investor assumptions. Some are simple misconceptions, but others mask complex challenges for sustainable investors.
Myth 1: It costs more to invest sustainably
Just as a sustainable approach can be achieved without compromising on performance, sustainable portfolios can be managed without heightening the risk and cost of underlying investments. This is especially true as the investment space evolves to include ever more cost-effective portfolio building blocks. Importantly, underlying portfolio holdings can be profitable whilst also being sustainably managed – indeed, one factor can inform the other.
By way of example, the current underlying costs of the holdings in our own Balanced Sustainable strategy and our Balanced Core strategy are almost perfectly aligned (as at 30.11.2019).
Myth 2: Taking a sustainable approach severely limits your available investment options
The argument in favor of this myth – that eliminating some of the total investment universe leaves sustainable investors with slim pickings to choose from – is at best simplistic, and at worst deeply misleading.
First, all investors are selective in their investments – no investor invests in every single asset available to them! We would argue that choosing investments based on their sustainable credentials is a very sensible approach. A growing body of evidence points to the benefits of sustainable business practices, from lower borrowing costs to improved operational performance and better risk management, meaning that selecting assets for sustainability characteristics is in many ways similar to favouring prudent corporate behaviour.
Second, sustainable investing is a growth market; with more and more investors seeking a way to make an impact (as well as financial returns) through their capital, the volume of sustainable products is growing too. According to ETFGI, the number of ESG ETFs (environmental, social and governance tracker funds) globally has gone from 46 in 2013 to 248 in August 2019. As the challenges faced by society and our planet become ever more acute, investor interest is supporting the drive to find new solutions to these problems, in turn drawing more investor interest in a virtuous cycle.
Myth 3: Sustainable funds cannot hold exposure to commodities
The question of commodities within sustainable funds is far from black and white. For example, gold remains challenging for sustainable investors. As a finite resource, which is quite literally taken out of the earth, it is extremely hard to argue that gold is a sustainable asset. Given the parts of the world where gold is often found, there are ethical sourcing issues to consider too. Within the investment industry, some steps have been taken towards resolving these problems, but it remains a tricky grey area.
Meanwhile, fossil fuels hold self-evident challenges for sustainable investors. Clearly, investing in fossil fuels is a challenging concept for a sustainable investor, but investors keen to back change will also know that many traditional energy companies are slowly focusing their activities. Some sustainable investors believe this is a change worth investing in. For investors who – like us – are interested in incorporating traditional energy companies into a sustainably-minded portfolio, a ‘best in class’ approach to selecting holdings can help to ensure that the businesses included are those demonstrating a real drive to change.
Myth 4: Investing sustainably doesn’t impact the real world
Sustainable investing is an extremely broad church, and each type of approach can make a difference. Let’s consider the impact of some of the approaches which fall into this wide ranging category:
- ‘Exclusions’: take your capital elsewhere
– Excluding/screening out assets from a portfolio on ethical or sustainability grounds
Of the three examples given here, this is likely to have the least tangible impact. The assets actively included in a portfolio arguably matter more than those excluded, although avoiding certain areas (such as tobacco) does have a role to play in building sustainable portfolios, and reduces the capital going to these areas.
- ‘Impact investing’: invest with a dual mandate
– Taking a non-financial goal alongside your financial goal, seeking to addressing a specific problem
Impact investing can be highly targeted, taking aim at very specific social or environmental problems. This makes for self-evident results, from improvements in social housing to new projects in renewable infrastructure.
- ‘ESG (environmental, social and governance) integration’: account for risks and reward good behaviour
– ESG risks and opportunities explicitly considered when selecting assets for inclusion in a portfolio
This more multi-faceted approach can also be seen as a risk management tool, by focusing on forward-thinking businesses. Quantitative measurements are hard to come by, but supporting companies and countries that perform well (or demonstrate a drive to improve) in ESG terms positively contributes to ESG goals through good funding and positive reinforcement.
Investing with integrated ESG considerations could also lower the carbon footprint of your investments. A comparison of the tCO2e (tonnes of carbon dioxide equivalent, a measure to compare greenhouse gas emissions) shows that the carbon footprint of a standard stock market index (MSCI World) is significantly higher than its sustainable counterpart (MSCI World Socially Responsible).
Lowering the carbon footprint of investments Carbon footprint per $1m invested
Past performance is not a reliable indicator of future results.
Myth 5: ‘Multi asset’ sustainable investing has not been tried and tested
Some of our sustainable strategies have now been in play for almost four years, and during this time we have been pleased to see more and more attractive multi asset opportunities emerging for sustainable investors.
What’s more, with increased longevity comes a greater industry awareness of the need to embody and evidence sustainable credentials. Publicly-listed companies have quickly realised that shareholders now want information about corporate sustainability (most of the largest businesses in the US are already reporting to their shareholders on these issues), and sustainable bonds (providing funding for areas like social housing and clean energy) have rocketed in number.
We firmly believe that the time to invest sustainably is here, and are happy to discuss our sustainable approach with any clients considering investing their capital in this way.