The below is newsletter I have written in my role of Director of Awards at Katerva; first published 22nd January 2021.
The Rise of Sustainability Investors
The very definition of sustainability hints towards the long-term, as it involves ensuring that what we do today will not jeopardise being able to continue doing it many years hence. It seems plausible to assume that investors who are interested in sustainability will have not only a longer-term outlook for themselves but also for the companies that they invest in.
With around $30 trillion invested sustainably, which is typically defined as investments in businesses that espouse environmental, social, and governance (ESG) in how they operate, it’s clearly a growing, and hugely influential, field.
It seems that more and more business leaders agree with the statement of Salesforce founder and co-CEO Marc Benioff that, “Yes, profits are important, but so is society. And if our quest for greater profits leaves our world worse off than before, all we will have taught our children is the power of greed.” (We will be looking at sustainability leadership at the individual and organisational levels in our February newsletter).
New research from the University of Chicago explores just what sustainability investors want and whether their significant presence can encourage companies to look and act more sustainably.
The research highlights that sustainability investors typically have a much longer timeframe for their investments than typical investors, and are therefore happy to forgo short-term gains in order to hedge climate risk through their green asset holdings. Data from the Global Sustainability Investing Alliance shows how increasingly popular this form of investing is, with 34% growth in the last two years.
Is the tide turning?
The relatively unique approach taken to sustainability investing is highlighted by the Chicago report, which illustrates that green assets typically have higher prices today, which usually means they can expect lower returns in the future. In other words, they might be considered less attractive investments, but there are at least two factors that influence such investments to perform better than might be expected.
Firstly, consumers are increasingly interested in the sustainability of the products and services they consume. While research by Harvard seems to indicate that there is a gap between intent and action – 65% of participants indicated interest in purchasing purpose-driven brands that advocate sustainability, yet less than half declared to actually do so – real market data paints a different picture. A study using barcode data found that sustainability-marketed products, accounting for 16.6% of the market, were responsible for over half of the growth in the period from 2013 to 2018; this is even more remarkable as growth overall was just over 1% for the same time period.
This resonates with a 2020 study by IBM:
- Over 7 in 10 consumers say it’s at least moderately important that brands offer “clean” products (78%), are sustainable and environmentally responsible (77%), support recycling (76%), or use natural ingredients (72%).
- 57% are willing to change their purchasing habits to help reduce negative impact to the environment, and among those who say sustainability is important for them, this jumps to 77%.
So changes in consumer behaviour is one driver affecting performance. The other is changes in the investment industry itself. To quote from the Chicago study, “If the ESG factor performed well during a 10-year period, then during that 10-year period, you could see green assets outperforming brown assets or stocks of companies that do not specifically embrace ESG criteria,” they explain.
In the past this was clearly to the case. A report published in 2009 highlighted that investors who stay clear of ‘sin stocks’, such as tobacco, alcohol, etc., often suffer in pure investment terms, in other words, ‘sin stocks’ tended to outperform more ethical investments.
Looking at more recent evidence, we find that the average UK ethical fund has outperformed the FTSE All Share index by 40% over the past 10 years and has even outperformed the average non-ethical fund by an impressive 23%. What’s more, ethical funds have performed even better than this on a global scale, with, for instance, the Liontrust Sustainable Future Global Growth fund turning a £1,000 investment into £3,670 over the last ten years.
This strong performance has been underlined by the growth in the number of ethical funds in operation, with nearly 60 funds now available for investors who wish to support ethical and sustainable operations.
Perhaps most interestingly of all, these investments do seem to be changing the market, and particularly how companies are behaving: interviews with 70 executives in 43 global institutional investing firms indicate that ESG have become a priority for the investment community, which means that corporations will soon be held accountable by shareholders for their ESG performance. As EY put it in their 2020 report, “When some of the world’s largest shareholders start asking questions about environmental, social and governance (ESG) issues at the companies they own, corporate directors need to have the right answers.”
Indeed, the Chicago research highlights how ESG investing is resulting in an increase in green activities in relation to their brown alternatives. This boost is happening in a couple of ways.
Firstly, ESG investing reduces the cost of capital for sustainable firms, thus making it easier for them to raise money, which in turn makes it easier for them to expand their operations. This results in an expansion of sustainable operations in relation to unsustainable operations, becoming a virtuous cycle.
Secondly, the influx of ESG investing provides a clear incentive for companies to act in a greener and more sustainable way because doing so can clearly increase their market value.
“We think this is good news for society and also for ESG investors,” the researchers explain. “When people follow these ESG investing strategies, they have a positive benefit on the world. It’s not just about changing stock prices.”
The growth in ESG investing also seems to be thriving due to the diversity in ESG-related tastes. For instance, if there are some interested in climate change, some in sustainable agriculture, some in renewable energy, or sustainable working practices, then this diversity lends itself to a flourishing sustainable investment sector.
“So, in order for some kind of ESG investment industry to exist, you must have some dispersion in what people care about,” the researchers conclude. “If people care a lot about ESG, that’s going to push up the price of green stocks. They’re going to make up a bigger fraction of the overall market.”