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Investing for the sustainability revolution

Emma Rapaport  |  23 Apr 2021Text size  Decrease  Increase  |  
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In recognition of Earth Day 2021, my local coffee shop declared Thursday a takeaway cup free day. I'm told they kept around 350 cups and lids out of landfall. As a three-cups a day girl myself, I was only too happy to participate.

As investors, doing our bit for the planet isn't as simple as remembering to pack the keep-cup, but it's getting easier. And arguably, the potential power we wield is much greater. Morningstar data shows the number of sustainable exchange-traded products listed on the exchanges has mushroomed, from just two in 2016 to seventeen today. With the click of a button, investors can send their cash to ETHI – an index-tracking ETF that exposes unitholders to global stocks identified as leaders on climate – or CLNE – a portfolio of 30 of the world's largest clean energy production, technology and equipment companies. Across all Australian sustainable funds, retail assets topped a record $25 billion in 2020, up 35 per cent on the previous year. 

As with any product which characterises itself as 'sustainable' or 'ethical', like conscious clothing or earth-friendly soaps, we must investigate, research and test those claims. Companies want to be seen to be getting on the sustainability train, but may lack the evidence to back it up. Similarly, for investors, a fund may say it considers environmental, social and governance (ESG) factors, but that doesn't mean it really integrates them into its investment decisions. 

It can be difficult for investors to distinguish between genuine and effective ESG risk-mitigation efforts and greenwashing. And there’s no question that subpar regulatory disclosure requirements have exacerbated the problem. Europe is just now seeing the fruits of increased disclosure efforts years in the making with the Sustainable Finance Disclosure Regulation. This regime will require funds marketed in the European Union to disclose climate, diversity, and governance data.

Sustainable investing isn't clear cut. While some funds employ outright exclusionary screens for sectors like gambling, tobacco and fossil fuels, others invest specifically in an environmental sector like clean energy. Some pursue a measurable goal like reducing carbon emissions, while others use techniques to manage the degree of environmental, social, and governance risk inherent in their portfolio. For example, a clean energy fund may invest in pure plays in renewable energy like First Solar or Vestas Wind Systems, they also invest in companies that are on the journey. They still operate carbon-intensive businesses in utilities, but they also provide exposure to solutions. That's not to say any of these products are 'bad' or 'unsustainable' – they're just making different promises.

How can investors determine if a fund a) lives up to its claims, and b) aligns with their beliefs?

Start by listing values that matter to you in life, not just investing. Then ask yourself, can I invest in these values? For example, are you looking to exclude certain types of products or companies from your portfolio? Are you looking to invest in initiatives that are working toward a greener future? Or are you looking to manage the risk companies in your portfolio face because of ESG issues?

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Once you’ve decided on a strategy, look to trusted resources to help you narrow down your options. For instance, Morningstar's screeners can help you narrow down a list of funds that are pursuing sustainable goals. First things first. Check in with what the fund is holding (if they disclose it) and decide whether your comfortable investing in those companies, based on your goals and values. Then, search for the fund's sustainable credentials. Do they have a responsible investment committee? Does the firm have ESG proxy-voting guidelines, and what is its track record? Do they integrate commitments like the United Nations Sustainable Development Goals? Does the investing approach align with the claims in sales materials? And do they report on the success of their sustainable objectives?

Several research houses like Morningstar, MSCI and the Responsible Investment Association of Australia can also help you seek products that are true to label with data, ratings and certifications. Sustainable funds typically charge a higher management fee than market-cap weighted index-tracking funds. You should be getting what you're paying for.

MORE ON THIS TOPIC: Anatomy of an ESG performer

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is the editorial manager for Morningstar Australia. Connect with Emma on Twitter @rap_reports. You can email Morningstar's editorial team editorialAU[at]morningstar[dot]com

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