Without a doubt, the practice of using environmental, social and governance (ESG) screening practices for investments has become mainstream across the globe. While some advisors have been engaged in sustainable investing practices for a long time, others are discovering how to incorporate these strategies for their clients for the first time.
Such strong interest in ESG is very encouraging, however at the same time it can be challenging to maintain the integrity and mission of these investments when everyone is trying to get on board as quickly as possible. Education in the sustainable investing space is still rather limited, but its importance cannot be understated as more mutual funds and ETFs are regularly accused of “greenwashing” in the absence of any government standards or oversight.
Greenwashing is often described in the investment industry as the practice of conveying a false impression or providing misleading information as to how the products or services of a company are being sustainable. Here are three questions to ask in order to help advisors identify and avoid greenwashing:
Does the fund prospectus offer an example of investments that are included and excluded from the fund?
A good portfolio manager will be able to explain not only why particular investments are included in a sustainable portfolio, but also why certain investments were excluded in the first place. Some funds will go so far as to offer real examples of investments that were excluded from a fund based on ESG criteria. This offers a way for investors to understand why an investment would be excluded based on ESG criteria but may have actually been included if non-ESG criteria were being used.
What are the major holdings of the fund and do they make sense?
This step is surprisingly simple for the average investor to do as an exercise: take a look at the top 10-20 holdings of the mutual fund or ETF, and just from a basic glance, do they appear to belong in a sustainable fund?
It is important to understand what investments are included in a mutual fund or ETF, but it is equally important to understand why those investments have been included, especially when some might make you scratch your head: why is Exxon-Mobil included in a supposedly “green” mutual fund?
As a matter of fact, Exxon-Mobil is actually one of the top 20 holdings included in BlackRock’s iShares ESG MSCI USA exchange-traded fund. The difference is that BlackRock routinely provides rationale and the ways in which they are actively engaged with the senior leadership of Exxon-Mobil on sustainability efforts. To merely mirror these holdings without a plan for engagement or impact would be considered a classic case of greenwashing.
Does the fund offer an impact report?
Impact reporting is extremely important among younger investors. In fact, Morgan Stanley’s 2021 report, Sustainable Signals, notes that nearly two-thirds (66%) of investors expressed that they would like to receive an impact report alongside a quarterly performance report.
Additionally, the accuracy of this impact reporting is highly important to investors, with 62% of respondents in favor of having a neutral third party verify the stated impact of their sustainable investments. Linking impacts back to the United Nations Sustainable Development Goals (SDGs) offers a clear way for investors to understand how their investments are truly being sustainable.
However, determining the impact of investments is not as complicated as it sounds: there are clear steps and processes described in CSRIC and online training sessions that discuss how enterprises and asset managers can plan and report on investment impacts to shareholders and stakeholders.
So what are advisors to do about these discrepancies, which have become such a hindrance to the success of sustainable investing? Education programs in sustainable investing, in particular the Chartered SRI Counselor (CSRIC) designation program offered by The College for Financial Planning does just this. In addition to covering the history and strategies for sustainable investing, we also discuss ways to make a difference with impact reporting, updates in the legal and regulatory environment, the basics of sustainable finance and looking forward to challenges and opportunities in this exciting space.
On this Earth Day, if you are so inspired to consider the long-term sustainability of your investment practices, it may be worth considering bringing ESG knowledge to your firm and financial planning practice.
