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We examine if ESG funds actually do any good

The election of president Trump may have been a setback for environmentalists and those keen on good corporate governance, but these sorts of social issues are not going to go away and for a company to succeed it has to be able to navigate them.

Those that fail to do so can suffer enormous harm, with recent examples including the reputational damage done to Sports Direct (SPD) following revelations about the poor treatment of its workers and the devastating impact of the emissions scandal on Volkswagen.

To avoid these sorts of disasters companies need to put environmental, social and corporate governance (ESG) factors at the heart of their policies, especially as a growing number of retail and professional investors now look at these issues when deciding whether or not to invest.

Sustainability ratings

Data provider Morningstar has developed a Sustainability Rating that measures how well an investment fund’s holdings are managing the ESG issues most relevant to their industries and the extent to which they are involved in ESG-related controversies.

The ratings are normally distributed within each fund sector with the funds that receive the lowest rating being awarded one globe and those with the highest rating – the top 10% − five globes. You can see how they measure up on Morningstar’s website and can screen out those that score poorly.

Jon Hale, director, sustainability research at Morningstar, says the group created the Sustainability Rating because of the rapid growth of interest in sustainable investing from mainstream investors.

‘Many of the world’s largest companies now explicitly consider sustainability as part of their long-term business strategies and a growing body of research suggests correlations between better company ESG performance and higher-quality management, higher growth and lower cost of capital.’

What is the evidence?

There is some evidence that links good governance with improved investment returns, but it is too early to draw any firm conclusions. Until this changes ESG funds will mainly be of interest to investors with socially responsible or ethical preferences.

Martin Bamford, managing director of Informed Choice, Chartered Financial Planners, says ethical investing was long thought to reduce the potential for returns, as it limited the available universe of stocks from which managers could select their portfolios.

‘Choosing from a restricted universe means the potential for higher risks, especially in the short term, but over the longer term we would expect the sustainable and socially responsible themes in these funds to deliver strong returns for shareholders,’ he comments.


Ryan Hughes, head of fund selection at AJ Bell, says there appears to be increasing academic evidence that companies that incorporate ESG into the DNA of their business generate better long term returns.

‘It is hard to confidently state whether this can be attributed to the funds market, given the explicit incorporation of ESG into investment processes for funds is in its infancy. The challenge is that it is likely that the “real” benefit is seen over the long term, which makes it difficult to judge the impact at the present time.’

ESG funds

Funds with the highest Morningstar Sustainability Rating (five globe) that have the best five-year performance record relative to their sector averages include: EdenTree UK Equity Growth (GB0008445982), MFM Slater Income (GB00B6YSXJ10), Henderson Global Care UK Income (GB0005027338) and Royal London Sustainable Leaders (GB0001615102).

‘We often recommend the Royal London Sustainable Leaders Trust to clients who have ESG criteria,’ agrees Bamford. ‘It operates in the UK All Companies sector and focuses on the core themes of the environment, human welfare and sustainability. The fund has delivered first quartile performance over the past three and five years, and scores very well against our measures of risk-adjusted returns, consistency and low cost.’

For those who would prefer an international exposure he recommends F&C Responsible Global Equity (GB0033145045), which is managed by Alice Evans, who has achieved above-average performance over the past one, three and five years.

Evans invests in companies whose products and operations are considered to be making a positive contribution to society and avoids those which, on balance, are harming the world, its people or wildlife.

The heart of the matter

A handful of fund management groups have embedded ESG into everything they do with Hughes recommending Hermes and Nordea as two groups worth further investigation.

Hermes Investment Management provides active investment strategies and stewardship, with the goal being to help people invest better, retire better and create a better society for all. Hermes is well known for active engagement with companies and it operates a range of funds across all the main sectors.

It is a similar situation at Schroders where global head of stewardship Jessica Ground says the company sees itself as a
long-term steward of its clients’ capital.

‘Our approach involves engaging with companies about their activities and helping them manage risks to drive better performance. Our investment experience and academic research show that companies with good ESG management often perform better and deliver superior returns over time, both for investors and society.’

Nordea is the largest Nordic retail fund provider and aims to deliver returns with responsibility. In order to do this it ensures that each of the companies it invests in live up to various criteria for sound ESG performance. Many of its funds are available to UK-based investors, although you may need to speak to your platform provider as they might not be automatically accessible online.

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