4. How to Avoid Greenwashing in ESG Funds
Greenwashing––it’s a legitimate concern for any sustainable investor.
If sustainability is important to you, and you want to express your values through your investments, you have plenty of accessible choices. The investment industry’s code for these kinds of funds is “ESG” (which stands for environmental, social, and governance). But in our experience, that ESG label can sometimes overstate a fund’s true commitment to sustainability.
The result is greenwashing: funds that tout their environmental or social impact, but don’t match their marketing with any real substance in the way they invest your money.
The Truth About Greenwashing
You don’t have to look too hard to find greenwashing – even financial industry stalwarts do it. Late in 2022, Goldman Sachs paid $4 million to settle an SEC investigation into their ESG claims. In the past two years, regulators in both the US and Europe have tightened rules about the definition of ESG, and in both cases, the number of funds labeled ESG declined significantly.
That doesn’t mean that all ESG funds are fraudulent – there are many legitimate and effective ESG strategies. But it does mean that investors need to have a sharp eye and to know what they’re looking for.
The bad news about greenwashing is that it’s fairly common. But the good news is that most funds are surprisingly bad at it. All funds (mutual funds, index funds, and exchange-traded funds) report regularly on their performance and activity. If you spend 5 minutes looking under the hood, you can usually tell what’s genuine and what’s not.
The Two Questions You Need to Ask to Avoid Greenwashing
Exposing deceptive funds with an ESG label comes down to answering two simple questions:
- Do they say what they do? As in, is it clear looking at the fund’s marketing materials and prospectus what their sustainability strategy is?
This isn’t an idle question – there are many ESG funds who either don’t know or can’t be bothered to tell you how they assess sustainability. Look for the following:
- What do they consider when looking at a company?
- What kind of companies, if any, do they avoid?
- How do they weigh financial data versus sustainability factors?
- Do they hide behind a “proprietary” model that says they use their “discretion” without telling you what that discretion is based on?
- Do they do what they say? As in, do you see evidence in their quarterly or annual commentary, their holdings, or – if they provide one – their impact reports that they follow the sustainability methodology they claim to? Do they give examples? If it’s not clear what their sustainability strategy is or why they hold the stocks that they do, that’s a red flag.
The Greenwashing Bottom Line
At the end of the day, it should be easy for you to know what an ESG fund’s strategy really is. Remember – it’s not your job to figure out what is happening in the portfolio. It’s the fund’s job to explain that to you. If a fund isn’t providing clear information or if it’s hard to understand, it may not be a suitable investment for you.
The Secret Sauce Shouldn’t Be Secret
Traditionally, fund providers have hidden behind the idea of their investing methodology being “proprietary.” They worry if they show you how they invest, competitors will copy them and they will lose their edge. In other words, you aren’t allowed to see their “secret sauce.”
When it comes to sustainability, however, you need to know what’s in the sauce. That’s in part because there is no single definition of sustainability, and no standardized metrics the define social or environmental impact. Funds do not earn seven out of ten green stars for meeting ESG standards (though they may claim to). You’re investing in the method the fund provider is using and the values that drive that methodology.
By asking these two simple questions – Do they say what they do, and do they do what they say? – you can find out how real those values and those methods are. You can feel great about your investments if you have the confidence to look under the hood and ask the tough questions. That’s where we come in.
Till Investors cultivates sustainable investors by helping them lay the groundwork for their first sustainable investment. Till Investors thinks investing your values is achievable, accessible, and actionable. Ready to put your money where your values are? Sign up at our website and get updates on our forthcoming book.