Is Your Esg Mutual Fund or ETF Really “Green” – More Disclosure May Be Coming

What is it about an investable product – a mutual fund, an exchange traded fund (ETF) –that would qualify it as an “ESG,” “green” or “sustainable” investment offering to retail or institutional investors? That’s a question getting much more attention recently.

S&P Global has issued a report that says only 12 percent of so-called “green” or “environmental” investment funds are on track to meet the global climate goals agreed to at the Paris Agreement / COP 21 meetings in 2015. These goals included trying to keep the global temperature increase this century to below 2 degrees Celsius above pre-industrial levels and to pursue limiting the increase even more to 1.5 degrees Celsius.

In our Top Story we are sharing some analysis of S&P Global’s report by Mark Segal in ESG Today (he’s the founder of the web site). S&P Global looked at about 12,000 equity funds and ETFs with $20 trillion in total market value. Key findings:

about 300 funds (with $350 billion total valuation) used “green” in their name or investment objectives
an analysis of 17,000 public companies owned by the total universe of 12,000 funds (using the S&P Global TruCost Paris Alignment Data) showed that only 11% were really aligned with the Paris Agreement goals
in the smaller universe of 300 “green” funds, only about 12% of the public companies owned by those funds were on track to meet Paris Agreement goals.

S&P Global’ s conclusion: “Our analysis points to a systemic issue. Few funds, even those that describe themselves as using green or climate-specific language, are on track to meet the goal of the Paris Agreement. Understanding the trajectory is an important step toward planning for a low-carbon future.” S&P Global noted that some funds are screening out fossil fuel companies for portfolios, include renewable energy companies, and some are engaging with portfolio companies to urge the firms de-carbonize their operations.

The marketing of mutual funds and ETFs as “ESG” and “green” has come under increased scrutiny by the Securities & Exchange Commission (SEC), which is focused on “enhancing ESG investment practices” of certain capital market players. The agency in May proposed amendments to rules and reporting requirements of investment advisors and investment companies that manage mutual funds and ETFs to “promote consistent, comparable, and reliable information for investors” about funds’ and advisors’ incorporation of ESG factors.

The proposed rule would aim to categorize types of ESG investment strategies and require funds and advisors to be more specific in disclosures (such as in prospectuses, annual reports, brochures) to inform investors about ESG strategies being pursued. Funds focused on the consideration of environmental factors would be required to disclosure the greenhouse gas (GHG) emissions associated with the companies held in their portfolios.

Funds that use proxy voting and that engage regularly with corporate issuers would be required to disclose their voting and engagement with companies on ESG-related matters.

Morningstar, which rates sustainable mutual funds among the thousands of funds rated by the firm’s analysts and its Sustainalytics unit, has highlighted challenges that fund companies may face if the SEC rules are adopted: “This year has been difficult for many ESG funds after years of solid performance,” writes Morningstar’s Katherine Lynch, “ but a handful of strategies have been able to outperform.” Which ones? Those holding energy stocks, which some investors in ESG try to avoid. Energy stocks are now outperforming, and most sustainable funds hold little or no oil companies in their portfolios because of the connection of oil and gas consumption and climate change.

The conversation about “sustainable investing” and the criteria used by mutual fund management companies is sure to get more complicated in the days ahead. The G&A team will continue to stay abreast of developments and keep you updated on the latest changes to disclosure requirements.

This is just the introduction of G&A's Sustainability Highlights newsletter this week. Click here to view the full issue.