Passive sustainable funds continue to gain traction, says Morningstar

May 17th, 2018 | By | Category: Latest news

The proportion of passive funds within the global sustainable funds universe has increased from less than 6% five years ago to approximately 12% today, according to a report by investment research house Morningstar. The study notes this rise has been driven by the general trend towards passive investing and the development of more sophisticated indices on the back of better ESG data.

Passive sustainable funds continue to gain traction, says Morningstar

Passive funds now make up 12% of the global sustainable funds universe.

Assets under management in portfolios that incorporate environmental, social, and governance (ESG) factors – both passive and actively managed funds – have grown to an estimated $23tn globally, an increase of more than 600% over the past decade.

Morningstar believes this growth can be attributed to factors such as increased regulation and a focus on long-term risks as well as mounting evidence that there isn’t a performance penalty associated with sustainable investing.

Morningstar’s report found that most of this growth in ESG assets has come from institutional investors, but some individual investors are also increasing their investments in the field as new products come to market.

Over 2,800 funds in Morningstar’s database are tagged as ‘socially conscious’ – funds that have an explicit sustainable mandate as well as those that use values-based exclusionary screens that are unrelated to sustainability issues – which represents nearly $970bn in assets. Most of these funds are actively managed, but index funds and ETFs are also making their mark.

As of 31 December 2017, there were nearly 270 sustainable index mutual funds and ETFs worldwide, with collective AUM of approximately $102bn. European funds retain the vast majority of assets, accounting for 85% of the global total. This European dominance is largely supported by institutional investors with sustainable mandates, particularly Scandinavian public pension, sovereign wealth, and insurance funds.

While broad ESG funds dominate the landscape, thematic funds are gaining prominence, especially those focused on climate change and gender diversity.

The report also showed that fixed-income funds are underrepresented. Less than 3% of passive sustainable assets are in bond funds, compared to 25% across the wider passive universe; however, Morningstar believes this imbalance is likely to be an area of growth in the near term.

Commenting on the development of the passive sustainable trend into the future, Hortense Bioy, director of passive strategies and sustainability research for Europe, said: “Looking ahead, we expect investor demand, coupled with better data quality and disclosure, to continue to drive product development. Specifically, we expect to see more passive funds that invest in themes derived from the United Nations Sustainable Development Goals. Low-carbon in particular will also continue to grow.”

In an effort to facilitate greater flows into passive sustainable funds, Morningstar has produced a checklist of eight key questions for investors to ask when choosing an ESG-themed ETF:

  1. What’s the fund’s ESG focus and the metrics it uses?
  2. Does the fund apply exclusions?
  3. Are there any sector and geographic biases?
  4. What’s the fund’s tracking error relative to the broad market?
  5. Does the fund charge a sustainability premium?
  6. What’s the fund’s track record?
  7. Is the fund company a responsible steward?
  8. How sustainable is the fund?
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