WHEB AM: ESG Ratings - A Quick Fix or a Bodged Job?
The dramatic growth in ESG and sustainable investing over the past few years is now well documented. What was once a sleepy backwater of the financial industry is now very much in the limelight.
Why this has changed so dramatically is not entirely clear. From WHEB's perspective as a dedicated sustainability-focused investment boutique, they think the primary driver has been the end client. Just as consumers switched to fairly-traded chocolate and free-range eggs in the 1990s and 2000s, so investors now demand portfolios that help drive positive change in the world around them, or at the very least avoid making things worse.
- Asset managers have been quick to respond to this shift in demand. Since the first quarter of 2021, Morningstar has added 3,450 sustainability funds to its database. Net inflows into ESG funds have been running at an annualized rate of c.24% over the past three years.
- This compares with just over 5% for the broader market. Our own asset growth at WHEB has also been remarkable. The strategy had less than £400m invested in it in mid-March 2020. Just two years later it has over three times this amount at £1.4bn.
- It is perhaps inevitable that this spectacular market growth will stimulate product development that includes funds that only consider sustainability issues in a perfunctory way.
- ESG ratings, often generated through algorithms or grounded on overly simplistic assumptions, have flooded the market, and provide a cheap and quick way to add ‘ESG’ to a fund label.
Asset managers that view sustainability merely as a marketing exercise, want a quick and cheap solution to ‘tick the ESG box’. ESG ratings and the investment strategies that rely on this approach may turn out to be less of a quick fix, and more a bodged job.
