By Salvatore J. Bruno, Chief Investment Officer and Managing Director, IndexIQ
It’s hard not to notice that the air has been a little cleaner, the night skies a little brighter. In some parts of the world where pollution is especially bad, the change has been dramatic. The global pandemic continues to be a human tragedy on a global scale, but it has also served to highlight the impact that industrial activity and transportation have had on the environment.
Economists, politicians, environmentalists and others have started to speculate as to what a post-pandemic world will look like. One possible outcome: a surge in interest in creating a more sustainable economy, and corresponding growth in demand for investment opportunities that emphasize ESG – environmental, social, and governance issues.
If this happens, it would continue an emergent trend. A recent CNBC story noted record investor demand for ESG funds in the first quarter of this year, with $10.5 billion in new flows, according to data from Morningstar. This comes on the heels of a record 2019, when ESG funds attracted more than $21 billion, four times the previous high. ESG had been the “next big thing” for so long that some had begun to speculate that it’s day would never come, but clearly investors were starting to adopt this strategy, for at least a portion of their portfolios, and that momentum appears poised to continue.
One persistent concern about ESG investing has been returns. But that may be changing as well. A 2019 study from the International Monetary Fund (IMF) found that the performance of “sustainable” funds was comparable to that of conventional equity funds. Importantly, the IMF report further noted how the investment strategy has evolved over time, from one initially concerned with simply excluding companies and sectors like tobacco, firearms, or gambling, to one that seeks to affirmatively identify companies using ESG principles to increase their competitiveness. It seems likely that as the post-COVID economy evolves, more companies will embrace ESG as simply good for business, and not just from a reputational perspective. That, in turn, should open up new investment avenues for ESG funds and further address concerns over returns.
It has been suggested that one effect of the global pandemic has been to remind the world how closely people and economies are interconnected. This, in turn, may encourage more “investing with a conscience” as the CNBC story noted. That may be. But there is a pragmatic investing case to be made for ESG as well: adhering to the environmental, social, and governance principles embodied in the strategy can increase competitiveness. This may drive increased adoption of ESG across corporate America and around the globe, expanding the universe of investable companies to one that looks – and performs – more like the broader market.
Some companies will be better at executing in this changing world than others. Those will be the ones to identify for inclusion in an index or a portfolio. But one way or another, ESG seems poised to grow.
Up next in Part 2: The impact of social change on companies and investing strategy, coming July 27.
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