Sustainability funds and ETFs are on the rise, dominating more and more mainstream conversations about investing. Young people, in particular, are firmly committed to environmental protection, fair working conditions and equality. For the newest generation of investors, investing sustainably is part of that commitment. But they’re not the only ones — even experienced investors are recognising the opportunity to contribute to a better world.
Sustainable investing offers you the opportunity to directly participate in the positive change. There are many different areas and companies to choose from, such as special hydrogen funds, which focus entirely on this future-oriented technology in the field of e-mobility.
The good news: sustainable investment funds have proven long ago that responsible investing is not equivalent to reduced returns. Although many people still believe that sustainable criteria result in lower returns, many studies indicate the contrary — they can even be more profitable and safer in times of crisis!
But what exactly are sustainability funds, and how are they defined? At first glance, it looks simple, but when you dig deeper, it gets more complex. Many questionable funds market themselves under the guise of sustainability. This practice is known as “greenwashing” and is especially common in the financial industry. Countless sustainability funds include environmentally destructive companies, such as those in the mining and oil industries.
This article explains the definitions of sustainability funds and shows how you can make genuinely sustainable investments that contribute to a better world with Yova.
Note: When funds are mentioned in this article, this relates to both actively managed equity funds and ETFs.
What are sustainability funds?
There’s no standard definition of sustainability funds, which is why they differ widely in terms of credibility. However, there are several common criteria, which we’ll examine in more detail in the following sections. You can also read more about how we define impact investing at Yova in this article.
SRI stands for “Socially Responsible Investment” and involves the consideration of social, environmental and ethical factors. In principle, SRI pursues meaningful and desirable goals. For example, a fund might claim to invest only in companies that have outstanding environmental and social criteria, and minimal controversies. But dig a little deeper and you will often find that these SRI funds include companies with a questionable impact on the environment and society.
The iShares MSCI World Socially Responsible Index UCITS ETF is one example. This major BlackRock fund is worth around USD 2,000,000,000 (as of July 2020). Despite being promoted as socially responsible, the fund includes investments in companies such as Pepsi and the British mining company Newmont Mining. And while these companies do have Corporate Social Responsibility strategies, they’re ultimately responsible for unhealthy drinks, single-use plastics and, in the case of Newmont Mining, activities that are environmentally damaging.
ESG stands for Environmental, Social and Governance. Companies are evaluated based on criteria within each of these three sections. For example, when it comes to the environment, consideration is given to CO2 emissions and pollution, while the social aspect covers working conditions and human rights. Last but not least, companies’ corporate governance is reviewed, including their supervisory structures and level of transparency.
ESG criteria, in some cases, go further than SRI. But even here, there are evident shortcomings: namely, the data focuses only on the operational side of a business (for example, its manufacturing processes and energy use). This completely ignores the impact of the product when it leaves the company’s facilities. As a result, ESG scores often give a false impression of how sustainable an investment really is.
Even so-called “green funds” lack a clear definition. Although the name suggests that they are environmentally friendly investments, there’s plenty of room for interpretation. Some green funds invest directly and exclusively in sustainable areas such as renewable energy, while others are already satisfied if there is “no negative impact”. However, the exact parameters remain woefully unspecified.
Alongside this, many companies strive to create the impression of being sustainable and socially aware, as this is good for business. Unfortunately, the reality is often frighteningly different. You can read more about the PR tricks used by companies in our article on greenwashing.
So, how sustainable are sustainability funds and ETFs, really?
Whether or not sustainability funds are actually sustainable ultimately depends on the individual definitions and criteria applied. Consider the following examples:
Many sustainable investment funds apply the best-in-class principle. This means that only the most sustainable companies in a given industry are selected. One advantage of this is that it might motivate companies to act more responsibly. The problem is that the assessment happens within the respective industry. According to this principle, the “most sustainable” companies in the oil industry are considered sustainable. This is precisely what happened to BP (British Petroleum) before the accident on the company’s own Deepwater Horizon oil rig, which was one of the worst environmental disasters in history.
And as our whitepaper demonstrates, ignoring the full lifecycle of a product can lead to sustainability assessments that are dubious at best. Some of BlackRock’s iShares sustainability funds, for example, include companies that manufacture products for the coal industry. Of course, it’s possible that the production of the equipment itself is sustainable — but the overall impact of the company becomes less inspiring when you consider what this equipment is used for once it’s in the hands of the buyer. Although BlackRock advocated the exclusion of fossil fuels in January 2020, no enforcement is yet in place at the time this article is written (July 2020). Nestlé, Total SA and Exxon could also be found in its sustainable and socially responsible funds.
Even companies such as AngloGold Ashanti, accused of the most severe violations of human and labour rights and large-scale environmental pollution, appear in some sustainability funds. So, clearly, sustainability funds are not always sustainable!
Does this mean that SRI and ESG criteria are useless? The answer is no, as they do effectively exclude many unsustainable companies. However, taken by themselves, they’re insufficient for a complete and comprehensive evaluation of social investments. In the next section, you’ll discover how to make sure that your investments are truly sustainable.
How can I make actually sustainable investments?
As you can see, there’s no easy way to distinguish greenwashed investments from truly sustainable ones. The effort involved in researching the topic is considerable and the connections between individual factors are often murky. Fortunately, there are good sustainable investment funds and other effective ways to avoid greenwashing. These are discussed in the following sections.
Investing in sustainability funds
Some investment companies recognise the problems mentioned in this article and take further steps to evaluate companies’ sustainability credentials. For example, the UniRak Nachhaltig fund by Union Investment uses its own database for sustainability research.
The GLS Gemeinschaftsbank is another company that’s fully geared towards sustainability. As such, the GLS equity funds (GLS Aktienfonds in German) are all sustainable, and the fund is guaranteed not to come from a bank that is involved in shady transactions.
However, funds also have disadvantages. Sometimes, fees are hidden in the fine print and turn out to be higher than expected. Furthermore, rather than owning shares directly, you buy into a complicated financial product. And finally, you have no influence on the composition of your portfolio. This means that you cannot exclude companies that do not suit you. ETFs, which are popular because of their low fees, follow a similar pattern.
Sustainable investing with Yova
Our objective is to make sustainable investing easy and accessible to all. Your personal needs are of particular importance to us. We have developed a system that includes robust sustainability assessments and also takes your individual choices into account.
To begin, you pick the impact topics that are important to you and select any industries you would like to exclude. We will also ask you some questions to work out the best balance of risk and expected return for you. Then, the Yova Engine selects suitable companies for your investment portfolio.
When we do sustainability assessments, we first look at the “handprint” of a company. This means that we look closely at the impact of the products and services it puts into the world. Unsustainable companies are excluded from the start.
Then, we take a close look at the company’s footprint. We examine the impact of its business operations in detail, for example, its working conditions and the CO2 emissions from its manufacturing plants.
Lastly, we look at the company’s ESG score.
Our whitepaper explains further how we evaluate the companies and put together your portfolio.
Start your sustainable investment now
Sustainability funds and ETFs have become more important in our society. The idea of being able to invest money sustainably while generating long-term returns is appealing to many people. However, the multitude of definitions and the opaque structure of the finance industry make it difficult to distinguish greenwashed investments from genuine sustainable investing.
But with Yova, you no longer have to worry about these problems. You have complete control over your investment and always know exactly what you are invested in. Best of all, there are no hidden costs, just one easy-to-understand fee.
Join our waitlist here to be among the first to try Yova when it launches in Germany. If you have any questions, our helpful team of experts is here to support you.