Opinion: You can count ESG funds focused on the value of one share. It hurts for investors because there are technical glitches

Valuable stocks far outpaced this year’s growth as the Federal Reserve shut down the money tap. But investors have no choice if they want to buy an environmental, social or management fund that leans towards this style.

Many ESG investors have low results in the wider market for several reasons: funds in this niche have a low weight of sectors that dominate the market, especially fossil fuel companies, which are considered valuable players because of their low rating. ESG funds are often overweight in the technology sector, which is in a bear market.

When it comes to valuing ESG funds, their capabilities are very limited.

Only five mutual funds and exchange-traded funds are clearly value-oriented, and four are index funds: Nuveen ESG Large-Cap Value ETF NULV,
-1.27%,
Pimco RAFI ESG US ETF RAFE,
-0.31%,
Calvert US Large Cap Value Responsible Index CFJAX,
-0.77%
and Praxis Value Index Fund MVIAX,
-0.25%.
Fifth, Parnassus Endeavor PARWX,
-1.40%,
is an actively managed mutual fund.

According to Morningstar, more than 550 sustainable funds are available to US investors, but the vast majority are growth-oriented strategies, or a mixture of growth and value, but growth-oriented through capitalization.

The low supply of ESG securities is not surprising, given that the style has not been in vogue for so long. Todd Rosenblut, head of research at ETF Trends, said valuable ETFs have been unpopular in recent years as the Fed has kept rates low by raising technology stocks. He says the universe of ESG ETFs is still a relatively young category in terms of product development.

A cross-examination of the sectoral holdings of the four value index funds shows that they all have a lower weight of energy compared to their counterparts, with a weighing of energy in the high value category of about 7%. The biggest lags in the efficiency of these funds are the Pimco and Calvert funds, which have less than 0.5% of energy.

Give up productivity for the sake of values?

Traditional value sectors, such as energy and utilities, are often important for fossil fuel companies or high-carbon companies. When these sectors perform well, as they do today, ESG investors who avoid such companies may have to accept low results.

Rosenblut is quick to point out that this does not mean that these sectors will always be in favor, even in cost-oriented market cycles.

“There will probably be market rotation, even in terms of value,” says Rosenblut. “But if you have one, you may be disappointed that they don’t hold up well in that environment because of what they lack.”

But short-term declines in efficiency may not matter to ESG investors.

“I think investors in ESG products should be prepared to lose some of the benefits because they prefer companies that adhere to certain standards of these three pillars of ESG. If they wanted performance similar to benchmarks, they could just own traditional benchmarks, ”he says.

Jordan Farris, head of ETF products at Nuveen, says the company’s ESG value fund has the most assets under management (AUM) out of a total of 18 ETFs, both ESG and non-ESG. This year alone, until May 1, the ESG value fund recorded flows of $ 200 million.

Their ESG ETF suite was designed to include names that made up 50% of the best in each sector, and Nuveen imposed low-carbon criteria to reduce the weighted average of carbon emissions compared to non-ESG products. In addition, the coefficients for the sectors have been optimized by plus or minus 4% relative to the parent index to reduce tracking error. This helps the ESG ETF to get closer to representation in the sector compared to non-ESG ETFs.

ETF ESG Value ETF from Nuveen has an energy ratio of 3.8% and includes names such as Halliburton HAL,
-5.14%
and Sempra Energy SRE,
-1.34%.
Despite this, Farris says that the weighted average carbon intensity in his ESG fund is lower than that of his counterparts. Morningstar calculates a carbon risk assessment for funds that ranges from zero to 100, with 100 being the highest risk. It shows the carbon risk assessment of the ESG Nuveen value fund at 7.28 versus the category average of 10.28.

“I would consider it a product of improvement, not an absolute product. We are looking for a higher ESG and a lower intensity of carbon emissions with a risk and return profile that is very similar to the standard stock index without ESG, ”says Farris.

Look beyond the funds

Jeff Finkelman, Managing Director of Sustainable Investment at Fiduciary Trust International, said that while ESG funds are currently doing poorly, it is important to keep in mind the long-term horizon when thinking about sustainable investment. , as trends in social issues, climate change and the inevitability of energy transition do not disappear.

Instead of considering funds, investors may have to consider individual sectors, Finkelman said, offering companies that deal with recycling, waste disposal, chemicals or industrial processes.

“These are areas where ESG issues become even more financially significant over time as long-term trends develop,” he said.