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Is this new socially aware investment strategy all it’s cracked up to be?
Environmental, social, and governance (ESG) funds, are becoming an increasingly popular form of investing. Set up as a social initiative by the United Nations about 20 years ago, ESG funds show no signs of slowing down their expansion. In fact, they are expected to become a $53 trillion dollar industry by 2025, but are ESG funds truly all they promise to be? Not everyone is convinced.
I will be share three common objections to investing in ESG funds I often see from clients and how advisors can best address those concerns and give reassurance.
True impact
One of the major concerns many investors have with ESG funds is whether they create a positive impact or if they just look good on paper. As performative activism has become a larger topic of discussion over the past few years, some clients have concerns that ESG funds are just another version of that. As advisors, however, it is our job to spell out exactly what each ESG fund a client has an interest in supports as it relates to their wealth management.
Trust from clients is the most important thing we have. Therefore, using that trust to make investment decisions easier for clients is vital. Not all ESG funds are equal, and it is the job of the wealth advisor to distinguish between the funds that are true to their mission and ones that are less impactful.
Performance
Another concern that clients might have with ESG funds is underperformance compared to more traditional funds, like mutual funds and ETFs. As ESG funds are a newer model of investing, there is less of a history to track their performance on, with only about 20 years to look at. Compared to more traditional funds, like the S&P 500, which recently celebrated its 60th birthday, ESG funds have a lot of catching up to do.
Performance-wise, however, let’s focus on the numbers. The S&P 500 underperformed ESG funds last year. While of course external factors such as the COVID-19 pandemic cannot be ignored, performance numbers should not be disregarded. The S&P 500 rose 27.1% last year. Taking averages into consideration, the S&P ESG Index still outperformed the S&P 500 by over 1% in 2020.
Expenses
Finally, one of the major concerns that clients might have with ESG funds is that they are oftentimes more expensive than traditional investment strategies. Personal research, while time-consuming, is necessary for investors to find ETFs and other funds that support their own personal social goals at a reasonable cost.
For wealthy investors with more assets to allocate, however, ESG funds can take a lot of that hassle away. While they may be a bit more expensive than other funds in the short run, many advisors predict that ESG funds are going to continue growing. Wealth advisors must be able to match the investment strategy to each client's individual ability and need.
As with any new form of investing, it is natural for there to be concerns and objections. For many clients, a significant portion of their life savings goes into investments when they begin working with wealth managers. This can leave people in a vulnerable position. At the same time, however, societal opinions have shifted, and investing in a socially responsible way is becoming a priority for many. As advisors, there must be an effort to give clients data on potential funds in a way they can easily digest. Most importantly, advisors should never pressure their clients into investing in something that they are not comfortable with.
Tim McCarthy is a managing director in the advisory services department and is based in Whittier Trust’s South Pasadena office. He oversees business development and marketing firmwide. Tim has 30 years of experience, working closely with clients to tailor practical solutions that meet their needs. He is also a member of the Whittier Trust of California board of directors.