There has been tremendous growth in the amount of investment capital directed towards climate change, environmental issues and sustainable investing. Annual cash flow into sustainable funds more than doubled from 2019 to 2020 and has increased tenfold since 2018. What has caused this rapid growth, and what can be expected for the future growth of sustainable investing?
A brief look back
It’s no secret that sustainable investing has continually garnered more attention over time. Since 1995, total assets held in sustainable investments have increased 25-fold. This growth has been incredibly consistent over time, as 31 of the last 32 quarters have resulted in positive quarterly cash inflows into sustainable funds. Since the third quarter of 2015, more cash has flowed into, rather than out, of sustainable investment opportunities.
A 2020 Trends Report by the United States Forum for Sustainable and Responsible Investment noted total sustainable investment assets under management reached $17.1 trillion — a 42% increase since 2018. Alternative investment vehicles for sustainable investing have grown across the board, as the number of property funds, REITS, hedge fund assets and total investment vehicles have all increased over the past five years. Today, it’s estimated that 33% of all U.S assets under professional management are tied to sustainable investing or related to ESG practices.
Let’s investigate a few of the reasons why ESG investments have been so popular.
One of the main catalysts for growth in sustainable investing is that investments in ESG have outperformed their counterparts. Stock performance of ESG companies have lower volatility than their peers by 28.67% while simultaneously having a positive effect on equity return by 6.12%. This was true across all 12 industries analyzed including materials, energy, food and beverage and automobiles.
Illiquid real assets — including farmland — have generated higher returns than traditional investments with significantly lower volatility as well. Over the past 25 years, farmland investments have had a higher risk-adjusted return than bonds. Real assets have also proven themselves a strong hedge against inflation. An increase in crop prices typically drives inflationary economic tendencies due to an increase in an average household’s increase in spend on food. Because of this, farmland investments have historically returned more than double the CPI average. Farmland investments are more positively correlated to inflation than government bonds, gold or stocks.
There’s been an increasing demand from both retail and institutional investors trying to get involved with ESG assets. 80% of asset owners are increasingly embracing sustainable investing, with an additional 15% actively considering investing in the industry. Sustainable investing might’ve once been dominated by millennials, but new research shows there’s a smaller statistical difference in ESG investing preference across age groups. In a poll by Morningstar, 72% of all adults living in the United States expressed at least moderate interest in sustainable investing. 21% of those surveyed expressed high interest in ESG investing, while only 11% of adults would rather focus strictly on higher returns.
Retail investor’s attitude towards sustainable investment has been growing. 74% of financial advisors believed their clients were committed to social and environmental causes in their portfolio choices. This same survey performed two years earlier resulted in only 30% of financial advisors stating the same notion. Institutional investors are equally — if not more — interested in getting involved in sustainable investment opportunities. Over $3.4 billion of institutional equity was invested in sustainable open-end funds or ETFs during the fourth quarter of 2020 alone.
Public policy and legislation
Legislation will only encourage further development in sustainable investing. Senate Democrats introduced an amendment to the Employee Retirement Income Security Act to allow fiduciaries to consider ESG factors when recommending investment strategies. House Democrats introduced the Sustainable Investment Policies Act to require large asset investment advisors to describe the ESG factors considered when making investment decisions. The Retirees Sustainable Investment Opportunities Act empowers ERISA-regulated plans to explain how the plan’s investment will address sustainable investing considerations, including climate change impacts.
This trend is also recognizable globally as well. Six countries (Denmark, France, Hungary, New Zealand, Sweden and the United Kingdom) have enshrined into law carbon neutral targets, with an additional 24 countries — including the United States — setting carbon neutral targets as official policy. In total, 132 countries around the world have enacted some policy to be carbon neutral by 2050. More legislation and environmental consciousness will only further heighten the opportunities and demand for sustainable investment opportunities.
A look forward
ESG and sustainable investing are expected to continue exceptional growth into the future. By 2025, approximately 33% of all global assets under management (not just domestic) are forecast to have ESG mandates. The industry is expected to increase 433% between 2018 and 2036, resulting in total global assets of $160 trillion. As a result of the Paris Agreement adopted in 2015, the International Finance Corporation anticipates nearly $23 trillion in investment opportunities in emerging markets between now and 2030.
This growth is due in large part to institutional investors. Amundi, the largest European asset manager, announced it would integrate ESG into 100% of its investments by the end of 2021. Blackrock, the world’s largest asset manager, has committed to increase its sustainable assets from $90 billion in 2019 to $1 trillion by the end of 2029. 83% of European institutional investors said sustainable investing has become more important for them.
It’s this type of disposition that will continue to fuel sustainable investing into the future.