Kermit was way ahead of his time. Today, more than ever, it’s not easy being green.
Climate change talks in Copenhagen late last year were widely considered a flop, but that hasn’t dampened investors’ enthusiasm. Data from research shop Morningstar Inc. [MORN] indicates that green mutual finds and exchange-traded funds had $4.5 billion of net inflows in the past three years and $6.5 billion in the past five years. Adding more fuel to the issue, the SEC last month said it would issue guidance to companies on how they should disclose risks related to climate change.
Enthusiasm aside, environmentally friendly investing is more difficult than ever. First, there is a ton of investment ambiguity in this area. Second, most investors do not understand recent distinctions that have surfaced. Third, there really are no good options for a core investment, except for the most gung-ho of greenies. And finally, most advisors are not ready to answer all the questions that clients might lob their way.
At one time, green investing was done under the broad description of socially responsible investing, and usually it constituted a screening process to pick the companies best suited to an investor’s ideals. But now there are a growing number of green funds specifically dedicated to a certain cause, like clean energy, that do not consider themselves socially responsible funds.
Morningstar fund analyst Michael Herbst describes the older way as “keeping the social aspects and the financial aspects separate” and simply picking investments after the screens had done their job of rejecting the undesirable stocks. But even today, there are very few large-cap green funds out there, so there aren’t many good options for the core of a portfolio.
All of this puts the onus on investors to really understand the funds they buy.
Paul Hilton, the director of equities research at Calvert Investments, describes this distinction as values-based approach (SRI screening) versus a solutions-focused approach (newer funds dedicated to a cause), which, he agrees, parlays into small-cap stocks that are more volatile.
What’s more, the typical investors have not made this distinction in their mind. And as they start asking green questions, many advisors are not qualified to answer, Hilton said.
Jack Robinson, the founder of Winslow Management, said investor demand will force companies to create large-cap green funds in less than two years. Until then, he said some investors will plow ahead and construct their own green portfolios from pure stock picking.
For that client, he suggests the same fundamental analysis that any stock picker needs to use. Companies need to have strong business models, strong management and access to capital, he said.
Investors have good choices if they go this route, Robinson said. Companies with sound environment practices can lower their costs and increase revenue at the same time, which will appeal to any investor, he said. The lower costs can come from recycled materials, particularly metals and higher revenue comes from a heightened interest from consumers in the products.
But even if your client does not want to start stock picking, there is a lot to learn about the bewildering choices these days involved in green investing.
So here’s the main take-away for advisors: educate yourself quickly about the issues and about green investing so you are equipped to have these conversations. And maybe you’ll even snag some clients along the way.
Because as Kermit taught us "green is the color of spring," but as Adam Smith proved it is also "the color of money."