Data has revealed that institutional investors have increasingly overcome the idea that sustainable investing and returns are mutually exclusive. However, more adoption brings additional challenges.

Greenwashing is an ongoing concern for institutional investors looking to incorporate sustainable investing into their portfolios. With environmental, social, and governance (ESG) and sustainable-labeled products increasing exponentially over the past few years, the options can be overwhelming, and it’s difficult to determine whether a product is really meeting the return and sustainable criteria the investor is looking to achieve.

In fact, roughly 60% of North American investors felt greenwashing—or a lack of clear, agreed upon, sustainable investment definitions—was the most significant obstacle when trying to invest sustainably, according to data from Schroders’ annual study, which surveys more than 650 institutional investors, including 179 from North America.

Alongside the investment challenges related to greenwashing, almost half of North American investors (49%) said that a lack of transparency and reported data was restricting their ability to invest sustainably, an increase from 37% a year ago. This is concerning, given the increased attention on the issue and sustainable products available to investors. It is imperative to increase transparency and standardize reporting, so investors do not feel overwhelmed by these growing demands and the amount of sustainability information out there. 

Such investments are not just a positive change for society and the environment—they also drive returns. Evidence has supported the notion that responsible companies should be more resilient in a downturn and outperform over the cycle. A study conducted by Bank of America showed that, during the spring downturn, the stocks with the highest ESG scores outperformed the broader market.

Companies’ externalities are becoming more important to the long-term sustainability of their business model and durability of earnings. The COVID-19 crisis has only accelerated the urgency on ESG considerations, and calls for corporate behavior to remain under the spotlight have been widespread. Investors are increasingly concerned with how workers are treated, particularly as major gaps in employee protection have been revealed. For example, an increasing number of workers are in casual or “gig” economy roles without benefits such as paid sick leave, health care, or retirement funds. This has created a “new social contract” between companies, their stakeholders, and their communities.

Investors wanting to avoid greenwashing at the manager and company level should pay attention to two key areas: active engagement and fund-level reporting.

Active Engagement

Engagement and voting are increasingly being viewed as important aspects of achieving change, rather than simply divesting. Asset managers and investors have a duty to hold companies accountable and an opportunity to drive positive change, rather than simply choosing to invest elsewhere.

Active engagement is on the rise among institutional investors—according to Schroders’ survey, 61% of North American institutions said active company engagement and stewardship were a key approach to integrating sustainability, up from just 44% a year ago.

Investors said transparent reporting, tangible outcomes, and consistently voting against companies in order to drive change were the three key signs of successful engagement. At the same time, institutional investors are realizing that an exclusionary approach is not the way to enact real change. Those that opted for an exclusionary approach fell to 30% this year from 51% in 2019.

When we engage with companies, we encourage them to think of the long term and consider the costs and benefits they are adding to society. Companies with a long-term outlook are more likely to behave responsibly toward their employees, to redirect capacity to social challenges, and to support ongoing relief efforts. Over time we expect these behaviors to be rewarded (what we call “corporate karma”) by consumers and investors alike. By engaging with companies and using voting rights, investors can ensure companies keep these long-term outlooks and drive sustainable change.

Fund-Level Reporting

Engagement is only a piece of the puzzle—fund-level reporting is also needed to combat some of the greenwashing. As the famous political adage goes: Trust but verify.

Institutional investors need to understand the sustainability profile of their investments as a key dimension of risk and opportunity, as the externalities that companies create are increasingly being passed back onto them in the form of costs, as social pressures and government intervention mount on ESG issues. For example, minimum wage legislation, sugar taxes, gambling restrictions, and carbon prices are all spreading, creating financial expenses for companies in place of previously unaccounted social problems.

Fund-level reporting is not simply claiming to invest sustainably in a firm level, glossy report. It’s meant to actually show investors how their money is being invested sustainably, with tangible evidence. This evidence should include real data, not just case studies. Anyone can create a case study about a sustainability company in the portfolio or tie a product back to the United Nations’ Sustainable Development Goals, but verifiable data will set apart managers who are greenwashing from those who are truly seeking a superior sustainable profile.

What’s Next?

The past year has indicated that the sustainable investing momentum is set to continue, as evidenced by the solid performance of sustainable funds during the COVID-19-related downturn and increased inflows into sustainable assets.

As we enter into a new presidential administration in the US with plans to further regulation of ESG issues, it will become increasingly important for companies to pay attention to and structure their business plans around ESG issues to preserve their bottom line.

As mentioned, consumers are laser-focused on how companies are adding value for all stakeholders and how they are managing their employees as the pandemic hopefully subsides in the new year. Organizations will need to show that they value key issues such as human capital in their organization by providing quality jobs with sufficient compensation, benefits, and opportunities for advancement, as well as demonstrate how their business practices impact the environment.

As sustainable investments continue to rise, greenwashing from companies and managers unfortunately won’t go away, but there are ways to combat it. Active engagement is key to making companies recognize these issues and stay true to their promises to address them, while fund-level reporting can ensure their investments are truly more sustainable.  

Sarah Bratton Hughes is head of sustainability, North America, at Schroders.

This feature is to provide general information only, does not constitute legal or tax advice, and cannot be used or substituted for legal or tax advice. Any opinions of the author do not necessarily reflect the stance of Institutional Shareholder Services or its affiliates.

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Increasing Body of Evidence Bolsters Case for ESG Investing

Sustainability Leaders to Work on Common Corporate Reporting Standard

ESG Proves to Be Safe Haven During Times of Turmoil

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