Asset managers must focus on long-term ESG messaging, not short-term performance
By Paul J. Lim
This article originally appeared in wealthmanagement.com
Amid the widespread backlash against ESG over the past year—which coincided with disappointing 2022 returns for sustainable investing strategies—something has largely gone unnoticed: Many ESG funds are back to outperforming in 2023.
So far this year (through June 6), iShares Paris-Aligned Climate MSCI USA ETF has returned 15.3% while the Vanguard ESG U.S. Stock ETF is up 15.2%, both around 300 bps better than the S&P 500 index. The same holds true overseas. The Calvert International Responsible Index Fund gained 12.1% so far this year while the SPDR MSCI ACWI Climate Paris-Aligned ETF is up 11.9% around 100 bps ahead of the MSCI EAFE Index of foreign stocks.
Is this a seismic shift in the markets? Not exactly. One reason environmental and social impact funds underperformed in 2022 was that the relatively “clean” tech sector tanked while “dirty” traditional energy stocks soared. And ESG-focused funds underweighted fossil fuel companies while overweighting tech. So far in 2023, though, those trends have reversed with tech up more than 40% and energy down nearly 10%.
For ESG managers, this is no time to crow. If the past few years showed anything, it’s how pointless it is to talk about sustainable investing in the context of a horse race. There will be years when ESG outperforms the broad market and plenty of times when environmental and social considerations fall short—as with any strategy.
Instead, ESG managers need to steal a page from value investors when it comes to communications. Funds that invest in beaten-down or overlooked stocks often spend years in a drought—for instance, they lagged badly for more than a dozen years between 2008 and 2021. Yet investors haven’t given up on this strategy and to this day value remains a core part of long-term investors’ portfolios.
Why? Value managers were wise to distill their messaging down to two key points: long-term outperformance and short-term downside protection. Academic research shows value investing ultimately outperforms over really long time horizons (20 years or longer), while history highlights how value tends to protect investors in downturns.
It’s now ESG fund managers’ turn to be clear and concise. What is the investment case for holding ESG funds for the long run? Is it about risk management, as most long-term assets will inherently be affected by global warming? Is it about getting an early jump on identifying areas of future growth? Is it about outperforming on a risk-adjusted basis?
If asset managers want investors to view ESG as neither a gimmick nor just a cause, they need to convey why sustainable investing deserves to be an enduring part of every investor’s portfolio. Only if they can successfully do that will investors remain loyal to ESG funds even when ESG underperforms fossil fuel stocks. The good news: Value managers have proven that if you craft a real—and really compelling—message, investors will endure short-term frustrations in exchange for long-term hope.
Paul J. Lim is Senior Vice President and Co-Head of the Wealth & Asset Management team at BackBay Communications, an integrated public relations, content marketing, and branding firm focused on asset management, fintech, ESG & impact investing, and private markets clients.
