For years, financial institutions and advisors have dismissed socially conscious investing as the well-intentioned but misguided philosophy of naïve investors. To the old guard, investment decisions should prioritize returns above all else, regardless of personal values that might directly conflict with the investment itself. The idea that investing could and should serve a dual purpose—to improve both performance and the world—has forever clashed with the “greed is good” cutthroat convictions of Wall Street.
Small voices rarely effect real change, particularly when up against deeply entrenched conventional thinking. As most investors have historically set aside values to prioritize the bottom line, financial institutions haven’t felt an economic incentive to develop better solutions. But a new generation has begun to push socially conscious investing into the mainstream. Of a Millennial generation that will inherit a $30 trillion transfer of wealth, 86% show an interest in socially responsible investing, according to Morgan Stanley.
Despite this increasing demand, institutions and advisers have a long way to go when it comes to delivering the products, services and advice that align with personal values. As a Millennial and a financial advisor, I know my industry needs to first acknowledge missteps so we can adapt to changing preferences and find more effective solutions. To that end, I’ve compiled a list of the four ways the financial industry has failed socially conscious investors.
We Can’t Define It
As investors expressed different socially conscious preferences over time, a few industry approaches emerged, including ESG, SRI and impact investing. However, varying definitions have confused not only investors, but the professionals trying to provide advice. While an ESG strategy prioritizes returns by investing in companies that rate highly in environmental, social and governance factors, traditional socially responsible investing (SRI) puts specific values ahead of performance by excluding certain companies from a portfolio. Meanwhile, impact investors predominantly seek for-profit companies making a positive impact beyond the bottom line.
Unfortunately, much of the industry is either unaware of these different definitions or conflates them into one, formulaic approach for any client who shows interest in socially conscious investing. Such a singular view overlooks the important purpose behind the different approaches and effectively dismisses the specific values and preferences of individual investors. Meanwhile, even those that recognize these nuances still tend to assign socially conscious clients to just one of the basic approaches, even when a more complicated blend of the three is more appropriate.
We Project Our Own Preferences
Not only do financial advisors pride themselves on delivering personalized advice, but industry “Know Your Client” rules require we gather detailed client information and preferences so we can provide suitable investment recommendations. Our ability to listen defines our success. Still, we’re human, which means we hear things through our own perspectives, a filter that sometimes skews what a client has conveyed. But at an average age of 51, advisor philosophies have often matched those of their mostly Baby Boomer client base, lowering the chance of things getting lost in translation.
Since the gap in worldviews has now widened as a new generation of clients shakes up conventional thinking, advisors might more often misinterpret preferences or project their own onto these younger investors. And rather than asking the right questions about personal values that go beyond the dollars and cents, we’re quick to make broad assumptions about Millennials, resulting in investment ideas that totally misalign with what matters most to the client.
We Push Products
Unfortunately, assumptions about the largest segment of our population has resulted in cookie-cutter investment products that put sizzle over substance. Hundreds of mutual funds and exchange-traded funds (ETFs) now showcase some sort of ESG label, often without any clear criteria as to what a company must do to rate highly in ESG. Many ESG-labeled funds also include holdings that score highly in one ESG factor like environmental standards, but fail miserably in social or governance factors. For example, one well-regarded ETF includes Wells Fargo, a company with a now infamous corporate mandate to defraud its customers.
In defense of the industry, we face an incredibly difficult task in trying to create scalable solutions to an elusive problem as every investor prioritizes different values. And beyond values, many of us have a fiduciary duty to create diversified portfolios that also reflect a client’s financial objectives and risk tolerance. Technology will likely play the most important role in this endeavor as digital platforms emerge that can determine each investor’s values and create completely customized portfolios that still provide appropriate asset allocation and strong performance.