With the rise and rise of new sustainable funds, the question of how to avoid greenwashing becomes more prevalent, and there is a lot of attention in the media for this. SRI labels are popping up and the EU is in the process of defining an ecolabel. Whereas in the past a fund would simply be labeled (Socially) Responsible or not, the market is now distinguishing between different ways of implementing sustainability.
Let’s start with the easy part: strategies that only apply simple exclusions and are still labeled as being sustainable should be a thing of the past. Investing sustainably is also much more difficult than buying a set of ESG scores and applying it to a portfolio. There is more to sustainable investing. Let’s talk about the new ways of sustainable investing, and the ‘greenwashing’ dilemmas.
There are clearly areas that sustainable investors want to avoid, such as tobacco, weapons, breaches of labor standards and human rights, and certain types of fossil fuels like thermal coal. Other areas are less clear. Traditional fossil fuels, for example, are a big contributor to climate change. However, they are still widely used and needed. There are those who believe that energy companies are both part of the problem and the solution. Others simply want to avoid them. The question is whether being invested in those companies and engaging with them might be a better way of creating change than avoiding them all.
Secondly, in my opinion, a strategy is only sustainable if it is also financially sustainable. So, integrated thinking is important. How do long-term ESG trends and external costs such as climate change, loss of biodiversity and rising inequality lead to changes in business models? ESG investing no longer means only reducing an investment universe to the ‘best-scoring’ names. It means thinking hard about sustainability and how it affects companies and investment strategies.
To give an example: in all our quantitative strategies, if two stocks have equal (financial) factor scores, the one with the better ESG score will have a higher weight. In our fundamental strategies, ESG will affect the valuation, i.e. the target price. For example, data privacy and its management thereof by internet companies was already priced into the valuation model long before this became an issue. It’s the same with the health care sector and pricing.