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How has the new normal impacted ESG investment?

This pandemic has presented us with an unexpected challenge. It has changed how we work, shop, live, meet and greet one another, how we travel. In short, it has managed to affect every aspect of our life. Post pandemic, things have changed unpredictably. The global dynamics have shifted, the fact that pandemic pushed the economies to breaking point, exposing the flaws in our economic and social systems. This led to the rise of an interesting scenario. Most organizations are using the economic uncertainty as an opportunity to realign and shift their focus towards a different kind of policy, one that takes into account environmental, social, and governance (ESG) factors.

For years, ESG issues were a secondary concern for investors. It was often seen as “alternative” or nice to have but not mainstream. The outbreak of Covid-19 could prove to be a major turning point for ESG investing, or strategies that consider a company’s environmental, social, and governance ratings alongside traditional financial metrics. Sustainable funds attracted record inflows in the first quarter amid the market turmoil, according to data from Morningstar, and many of these funds are outperforming the broader market for the year.

Post pandemic performance of ESG funds:

As per Morningstar, Sustainability-focused funds attracted a record amount of capital in the first quarter of 2020. Global sustainable funds saw inflows of $45.7 billion, while in the U.S., sustainable funds saw a record $10.5 billion of inflows in the first quarter. By the fourth quarter of 2020, the global inflow of ESG funds reached a record high of $152 billion. The total ESG assets reached $1.2 trillion in 2020. While the year 2020 was considered a record year for ESG funds, it is expected that total global sustainable funds inflow in the year 2021 will surpass 2020 by a big margin. According to a report published by Deutsche Bank, ESG investments are expected to further grow and to pass the USD 100 trillion by 2030.

What is driving this boom in ESG investing?

Post pandemic, there is a boom in ESG investing. People all over the globe are investing more and more into green funds. So the obvious question to ask is why? What has changed during this pandemic? Various factors have led to this boom, factors such as:

  • Change in Attitude: Investor attitudes have shifted from being capital-driven to impact-driven. As per Harlin Singh, head of sustainable investments at Citi Private Bank, “today 9 out of 10 people want to invest in a way that leaves a positive mark”.
  • Rise of S &G: Another main reason for this boom is the rise of S (social) & G (governance) factors. During the pandemic, a lot of people become unemployed, society as a whole becomes more socially active. We saw an increase in volunteering, social cohesion, community support and a focus on public good vs. private freedoms. As a result, people’s expectations have increased as well.
  • Consumer Demands: With people becoming more aware of ESG parameters, they are more likely to reflect the same in the product they use. As per Prosper’s consumer social engagement data shows that 33% of consumers aged 18-34 will spend more on a brand if they agree with the stand they take on a social issue. The opposite is also true, with around 27% saying they’ll spend less on a brand they disagree with.
  • Lower Portfolio risk: ESG is no longer a niche. Companies, as well as investors, have realised that integrating ESG aspects into investment decisions tends to lower the risk profile of businesses; and hence offer the potential to enhance risk-adjusted returns. Companies actively working to address issues like climate change, social equality and good moral practices witness fewer business disruptions and produce more reliable financial results over time. That means lower downside risk for shareholders.
  • Higher returns: In addition to lower downside risk, ESG stocks generate comparable or superior financial results compared with their non-ESG-focused peers. Numerous studies showing that environmental, social and governance-based investment has tended to deliver outperformance in recent years, particularly during the pandemic-driven sell-off of March-April 2020.

Future scope of ESG investing:

Covid-19 pandemic has acted as a demo for the massive crisis global warming will become. It has forced governments, international organizations, and every single stakeholder to think. Think about how vulnerable we are and how much more we need to do to safeguard humanity. As a result, we are witnessing rapid growth in ESG investments. As per a report by US-SIF, assets under management using sustainable-investing strategies grew 42% from $12 trillion in 2018 to $17.1 trillion in 2020. In the past 12-18 months, there’s been a lot of net-zero announcements by big corporates, investment institutes, and governments all over the world. The future projection for ESG investments looks positive, with total ESG assets expected to reach $100 trillion by 2030. But there are still a few challenges that need to be addressed first.

These challenges for ESG growth are

  1. Inconsistencies in ESG standards.

There are no agreed-upon standards for evaluating ESG performance. That creates inconsistencies in ESG portfolios and funds. You want to be sure your ESG funds align with your values. Before investing in ESG ETFs and ESG mutual funds, learn how the fund screens its investments.

2.No long-term data on the financial performance of ESG companies.

Longer-term data could show that ESG companies aren’t as resilient as once thought. If that happened, investors who are wholly focused on financial returns would likely shift away from the ESG sector.

3. Lack of transparency on reporting ESG issues.

Companies could stop voluntarily reporting sustainability data. Companies can engage in greenwashing practices, hide the negative data and as a result, they can create a sense of skepticism among investors.

Only once these issues are addressed, can we see the ESG fund growing to its full potential and helping in reaching the sustainable development goals.