When most ETFs and mutual funds were losing assets earlier this year, those committed to the best ESG stocks and ESG investing principles — which put a priority on environmental, social and governance issues — proved their sustainability.
Socially responsible investing has skyrocketed in 2020. And it’s showing its value, says Meggin Thwing Eastman, research editorial director for MSCI ESG Research. “Even if you didn’t care about ESG issues, history shows that ESG strategies have been successful in managing risk and measuring portfolio resilience,” she said.
Morningstar estimates ESG-focused “sustainable funds” of all types — equity, bonds, commodities, etc. — saw net inflows of more than $21 billion in capital during the first quarter of 2021. That’s more than double the $10.4 billion seen one year ago in the first quarter of 2020. It was also about 5 times greater than first-quarter flows in 2019.
What Is ESG Investing?
Many investors also favor ESG investing in choosing their own stocks to buy. For those who do, Investor’s Business Daily presents its second annual 50 Best ESG Companies list. The list highlights 50 stocks that boast both high ESG ratings and superior IBD stock ratings of fundamental and technical strength.
These ESG stocks have been especially strong, with the top three stocks on IBD’s Best ESG Companies list each having a Composite Rating of 99. In terms of stock performance, at the top of the IBD ESG list, Nvidia (NVDA) had a 12-month gain of 206% though late October 2020. Pool (POOL) had a 72% advance. Salesforce.com (CRM) was up nearly 80%. The next five stocks on IBD’s ESG list averaged a 12-month gain of almost 70%. Nvidia is still on the IBD 50 list of the best growth stocks as of June 10, 2021.
ESG Investing: Influx of Assets in 2020
The year began for ESG investors with two separate statements, one to CEOs and another to clients, from Larry Fink, CEO of the asset management giant BlackRock (BLK). In January, Fink made emphatically clear that BlackRock would, moving forward, place issues of environmental sustainability and impact at the core of its decision-making process. That signaled that one of the world’s largest and most influential institutional investors was beginning to shift its more than $7.4 trillion in assets under management toward ESG investing targets.
“Climate change has become a defining factor in companies’ long-term prospects,” Fink wrote, and added, “Indeed, climate change is almost invariably the top issue that clients around the world raise with BlackRock.”
Investors from Europe to Australia, South America to China, Florida to Oregon are asking how they should modify their portfolios, the note said. They want to understand both the physical risks associated with climate change as well as the ways in which climate policy will affect prices, costs, and demand across economies.
ESG Investing: Good In Reducing Risk
The shift at BlackRock followed a number of other critically influential investment strategy shifts. Among those acting were the massive sovereign wealth funds of Norway and Saudi Arabia. Both announced plans last year to begin divesting away from oil — the largest source of revenue in both countries — and to build more sustainability into their portfolios.
Nicolai Tangen, who in September took over as CEO of Norway’s $1 trillion fund, told London’s Financial Times this month that ESG investing offered a particularly attractive path for divestment. The fund — traditionally dubbed the “Oil Fund,” due to the country’s heavy dependence on North Sea oil production — sold out of 42 companies in 2019, according to the Times. Links to coal use and production were the primary cause for divestiture. Subpar behavior with regard to human rights, anti-corruption and “other ESG standards” were also leading causes.
Strong ESG investing performers are “an area where we can take a bit more risk,” Tangen told the Times. “It’s been very profitable, very good for the fund in reducing risk.”
MSCI ESG Ratings
Index manager MSCI (MSCI) has been a key player in ranking companies according to ESG criteria since 2010. That’s when it acquired RiskMetrics, along with the ESG ranking system launched by Innovest Strategic Value Advisors in 2007.
Since then, MSCI ESG Research has ranked companies according to available information pertaining to environmental, social and governance criteria. The best performers get an AAA or AA rating. Those ratings provide the basis for MSCI’s more than 1,500 equity and fixed-income ESG indexes. The earliest of those, the MSCI KLD 400 Social Index, first launched as the Domini Social 400 Index in 1990.
IBD cross-references MSCI’s rankings with its database of all stocks to determine the 50 most ESG advanced companies in the growth stock realm. The Best ESG Companies list includes only companies with premier AAA and AA ratings from MSCI as of Aug. 3.
Among that group, we chose those with the highest IBD Composite Ratings as of Oct. 13. All have Composite Ratings higher than 80, putting them in the top 20% of all U.S.-traded stocks based on critical fundamental and technical performance indicators.
Readers can also view our list of ESG category winners, based on eight specific industries for people interested in those types of companies.
Investors new to the socially responsible investing game should know that the MSCI ESG ratings compare companies only to other companies in their industry. An AAA rating means your ESG efforts put your company ahead of industry peers.
ESG Investing: A $1.3 Trillion Market Segment?
Also keep in mind, some companies rank high due to social issues such as health care, company leave and diversity policies for their workforce, while they may be less environmentally savvy then a lower-ranked peer.
To date, no standardized set of reporting requirements relates specifically to the countless aspects of corporate governance encompassed under the ESG rubric. That makes ranking difficult, and more of an art in certain situations than a science. Still, indexes like the MSCI ESG indexes and the Dow Jones Sustainability indexes have made an effort in recent years to incorporate metrics into their indexes and rely less on subjective measurements for ESG.
Assets in ESG keep growing, as a July report indicated from State Street Global Advisors (STT). State Street estimated global ESG ETF and index mutual fund assets will increase from $170 billion as of May 31, 2020, to more than $1.3 trillion by 2030.
Corporate Governance Issues
As the criteria used by Norway’s fund make clear, ESG encompasses a lot more than issues related only to climate change. As an investment term, ESG runs alongside the broader term socially responsible investing (SRI). Most investors interested in SRI tune in to the environmental and social aspects of ESG — how a company manages its impact on the environment and upon people, starting with its workforce.
The third component, the governance category, “stands by itself and rarely has a direct relationship to environmental or social issues,” said Securities & Exchange Commission Commissioner Elad Roisman in a July 7 speech to the Society for Corporate Governance.
Governance reform focuses on the company itself and what is best for its optimal operation as well as its shareholders, Roisman pointed out. Environmental and social components of ESG focus more at a societal level. Roisman’s example: “How is the company ‘doing its part’ to combat climate change or address global and political matters?”
The Pandemic Effect On ESG Investing
There was a time when ESG investing was a red flag for weak-performing assets. That began to change significantly before 2020. And the onset of the coronavirus pandemic emphasized socio-economic disparities and environmental risks, both in the U.S. and elsewhere.
The term “tipping-point” crops up almost every year, said a July report from JP Morgan (JPM). But a shift does appear to be underway.
“The recent momentum observed in ESG investing is remarkable,” the report said. “Once a niche, ESG investing is fast growing in every geography and assets indicated as following ESG principles may soon represent 44% of global assets under management.
The second quarter of 2020 saw investors pull $137 billion, overall, out of stock funds. However, ESG investors directed $9.3 billion into stock funds. ETFs, during both the first and second quarter, lured a majority of those funds. BlackRock, which had 21 ESG-focused funds at the end of the quarter, was the top draw, capturing 50% of the total sustainable fund inflow.
ESG Performance: Stocks vs. Funds
To give some sense of increased demand for ESG investments, look at the average daily volume of the four BlackRock ETFs labeled as “ESG Aware.” Average daily volume of the iShares ESG Aware MSCI USA ETF (ESGU) was more than 20 million shares during September. That was up more than 1,200% from September 2019. The average volume increase across the other three funds was 389%.
FlexShares STOXX US ESG Impact Index Fund (ESG) showed an average, September-over-September, volume increase of 70%. Volume at the Vanguard ESG International Stock ETF (VSGX) is up 161% over the same period.
The oldest among this group of funds, the iShares ESG Aware MSCI EAFE ETF (ESGD), which invests in developing country stocks that have an ESG aspect to them, launched in June 2016. Also among ESG ETFs are iShares ESG Aware MSCI USA (ESGU), up 22% over its September 2019 close. The FlexShares STOXX US ESG Impact Index Fund (ESG) has a 21% gain. The iShares ESG Aware MSCI EM ETF (ESGE) is up 15.6%.
This article was originally published on Oct. 26, 2020, and was updated on June 10, 2021.
The Best ESG Companies logo and accolades are available for licensing through Investor’s Business Daily’s partner, The YGS Group, at www.IBDlicensing.com or 800-290-5460.
Find Alan R. Elliott on Twitter @IBD_Aelliott
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