Environmental, social and governance-investing products have made a quick turn from the do-good darlings of the market to the target of criticism and regulatory scrutiny.
The Securities and Exchange Commission is cracking down on firms that claim ESG in marketing products but whose portfolios differ little from conventional strategies. In the past month, DWS and Goldman Sachs Asset Management have each faced regulatory heat – German police raised DWS offices in Frankfurt, while the U.S. SEC has opened a probe into GSAM. (It is unclear whether the investigations covers either firm's ESG ETFs, however.)
Meanwhile, ESG managers are getting buffeted from both sides of the aisle, with environmental activists saying the products let too many dirty companies off the hook and large institutions have questioned the politics behind the strategies.
Investors and advisors appear to be backing away from the fire. Of the more than 400 advisors who the Financial Planning Association surveyed in February and March, 15% said they planned to decrease their ESG investments. In 2021, just 4% said they planned to decrease holdings, as reported in Financial Advisor IQ's sister publication, FundFire.
Advisors also reported a drop in client inquiries about ESG, with 31% saying a client has asked about the strategy in the past six months, down from 39% last year.
And then there is the market downturn.
All this could be contributing to the record outflows from ESG equity ETFs, some $2 billion in May, according to Bloomberg data reported in Financial Advisor IQ’s sister publication, Ignites.
Yet advisors and providers generally agree that there remains at least a segment of the population interested in making an impact with their investing, if not skeptical about how managers go about it. This could leave some investors to eschew comingled funds like ETFs in favor of more personalized portfolios.
“There is a different vintage of investor who says ESG is much more personal to me,” said David Botset, head of product and strategy at Schwab Asset Management. The firm last year launched its first ESG ETF with Ariel Investments as a subadvisor. The Ariel ESG ETF, which takes a more value-oriented tilt to the category dominated with growth strategies. But the firm is making ESG a core part of its Schwab Personalized Indexing product, which launched this spring.
Direct indexing allows individuals to take a stand on the sustainability by making calls on controversial securities or industries, like oil-and-gas, Botset noted. Some investors may want to exclude fossil fuel producers, which not all ESG indexes do, Others may feel strongly about investing in energy companies but dislike alcohol, tobacco or other stocks, he notes.
Schwab is still building out tools for investors to screen and remove such securities from broad based indexes (it does offer an ESG index as a baseline for one of its direct indexing products). But the Westlake, Texas-based firm is just one of a number of ETF providers – Vanguard and BlackRock notably – that say they want to give investors a choice in the product wrappers they use to express their ESG views depending on their portfolio size, complexity or specific feelings around sustainable elements.
ESG may be going through its growing pains, like many other hot product trends in the ETF market have experienced. But a growing number of choices in options to convey their ESG convictions may prevent them from having bad experiences and ultimately help sustainable investing find its place in client portfolios.