Although 2020 proved to be a year where more investors embraced environmental, social and governance (ESG) and sustainable investment, the “seismic shift” towards such funds is unlikely to be reversed, according to Adrian Lowcock, head of personal investing at Willis Owen.
This is one reason why Lowcock believes sustainable and ESG-focused funds should now sit at the heart of investors’ long-term portfolios.
ESG investing has been growing in popularity as fears over climate change have caused investors to reconsider the impact of their investments.
Whilst the last few years have seen the ESG and sustainable investing movement gain considerable momentum, it was 2020 that proved to be its most pivotal year so far.
Indeed, retail investors poured record amounts of money into socially responsible funds in 2020. According to figures from the Investment Association, net retail sales for responsible investments grew from £465m in January 2020 to over £1bn by December 2020 by the end of the year.
Lowcock pointed out that the investment style has outstripped non-ESG approaches over three- and five-year periods.
The five-year total return for the MSCI ACWI ESG Leaders index is 88.24 per cent versus the MSCI ACWI index’s return of 87.57 per cent.
Source: FE Analytics
In the past, ESG and sustainable investment approaches may have been satellite funds for a select few individuals who wanted to invest in line with their ethics and principles.
However, Lowcock believes these are no longer “nice to have” investments and that they are now core holdings.
The latest figures form the investment association show that there is over £61bn in responsible funds in February this year, nearly double the £34.3bn from a year earlier in February 2020.
“Whereas previously, ESG was a secondary consideration, a nice to have tilt to portfolios, the world has been changing,” he said.
“A focus on companies which do less harm to the environment, be that alternative energy, greener food production or waste reduction, are here to stay, and crucially, they are also rewarding investors.
“Clearly the Covid pandemic has accelerated an existing trend as people took lockdown as an opportunity to revaluate their lives and could witness first-hand the effect human activity was having on their local environment.
“As with any investment, there will be periods of underperformance. For example, with vaccines being rolled out investors have focused on the end of the pandemic and there has been a shift to value and recovery stocks, which includes oil and airline industries that typically don’t feature in ESG-focused funds.”
Furthermore, Lowcock believes the longer-term outperformance of sustainable, ESG and ethical funds will continue because many of the “old-guard economy stocks” will likely struggle unless they change.
“ESG investing is now a huge part of mainstream investing,” he said. “The development of the fourth digital age is also supporting progress in ethical investing as new technologies make opportunities more cost effective, and the use of data means companies can better track the impact they have, and also be more accountable for their behaviour.
“However, where previously ethical funds would have avoided some sectors and stocks outright, these days fund managers are willing to engage with companies and management to help influence and support change.
“These trends are not one-, three- or even five-year ones. They are here to stay, and investors who are not considering them are going to miss out over the long term.”
With this in mind, Lowcock shared three sustainable ESG funds to consider for an investor’s portfolio.
ASI UK Ethical Equity
The first is the £328m ASI UK Ethical Equity fund run by Lesley Duncan.
Lowcock highlighted how the manager follows “a strict ethical approach” to screening companies on both positive and negative criteria.
“The process means some sectors such as tobacco, weapons and pharmaceutical (animal testing) are excluded in favour of companies that promote equal opportunities, strong ethical governance and support the local community,” he added.
The UK equity fund avoids investing in companies deriving revenue from animal testing, weaponry, pornography and gambling services.
It also seeks out companies whose business activities are regarded as making a positive contribution in terms of preserving the environment or improving the quality and safety of human life.
The two FE fundinfo Crown-rated fund has 72 holdings and has its top three positions in Howden, Aveva, and Polypipe.
Performance of the fund over 5yrs
Source: FE Analytics
Over the last five years, ASI UK Ethical Equity has delivered a total return of 51.93 per cent, putting it in the second quartile of the IA UK All Companies sector. It currently yields 0.45 per cent and has an ongoing charges figure of 0.9 per cent.
Royal London Sustainable Leaders
The next fund Lowcock highlighted is the £2.7bn Royal London Sustainable Leaders Trust run by FE fundinfo Alpha Manager Mike Fox.
Lowcock described Fox as “a veteran of sustainable investing” who focuses on companies which have a positive effect on the environment, human welfare and quality of life.
“He also invests in companies where the management are making above-average efforts in corporate responsibility,” he added.
The five FE fundinfo Crown-rated fund has 41 holdings and has its largest three positions in Prudential, Unilever and SSE.
Performance of the fund over 5yrs
Source: FE Analytics
Over the last five years, Royal London Sustainable Leaders has made a top-quartile total return of 74.95 per cent. This makes it the 13th best performer out of 241 IA UK All Companies funds.
It currently yields 1.18 per cent and has an ongoing charges figure of 0.76 per cent.
Stewart Investors Worldwide Sustainable
The final fund Lowcock suggested is the £729m Stewart Investors Worldwide Sustainable fund run by Nick Edgerton and FE fundinfo Alpha Manager David Gait.
He said Edgerton and Gait carry out fundamental analysis with a particular focus on sustainability of company earnings and business models.
The portfolio tends to have a bias to defensive growth companies due to the focus on high-calibre management and healthy balance sheets.
The four FE fundinfo Crown-rated fund has 51 holdings and has its largest three positions are Fortinet, Unilever and Infineon Technologies.
Performance of the fund over 5yrs
Source: FE Analytics
Over the last five years, Stewart Investors Worldwide Sustainable has delivered a total return of 87.39 per cent, which ranks it in the IA Global sector’s second quartile. It currently yields 0.04 per cent and has an ongoing charges figure of 0.67 per cent.