Are asset managers really exaggerating ESG claims?

When an asset manager labels a fund as “green”, do they really mean it?
The Financial Conduct Authority (FCA) and other regulators have been cracking down on concerns about ‘greenwashing’ in recent years, bringing in new rules about product labelling to ensure that investment funds do what they say.

Concerns persist that asset managers are exaggerating the environmental, social and governance (ESG) qualities of their products, charging a premium, or adding green labels in order to benefit from increased investor appetite for these strategies.

As the FCA stated in 2022: “Greenwashing may be eroding trust in the market for sustainable investment products. Trust and integrity in these products are important to the transition to a more sustainable future.”

However, a recent academic study has found evidence that asset managers have been adapting their strategies to reflect changes in fund names and labels.

The study, conducted by four researchers from Utrecht University School of Business in the Netherlands, analysed 740 investment funds that changed their names to incorporate ESG-related terms between July 2016 and October 2022.

Inflows into these funds increased “significantly” after name changes, the researchers found, as retail and institutional investors sought out green products. While this reflected rising demand for ESG investment strategies, it also suggested a potential to “exploit investors”, they said, which had prompted them to take the research further.

Walking the talk
The study found that, on average, renamed funds tended to experience an improvement in ESG scores as measured by data providers Morningstar and MSCI. Fund managers “on average reduce both the exposure to controversial businesses and the carbon intensity of their portfolios”, the researchers wrote.

The study also found that turnover rates within renamed funds did not increase substantially, implying that ESG scores and credentials can be improved without significant portfolio overhauls. In addition, there was no noticeable impact on fees.

The researchers stated: “We conclude that ESG-related name changes do not appear to be cosmetic nor accompanied by unreasonably higher fees.”

They added: “Although fund managers’ behaviour may vary by domicile, we provide consistent evidence that mutual funds improve the ESG performance and reduce the ESG risks of their portfolios after signalling ESG repurposing through fund name changes…

“Taken together, the results are inconsistent with concerns that funds use cosmetic name changes to attract capital from (or charge higher fees to) ESG-oriented investors without changing underlying investment strategies. The results of this paper support the idea that renaming signals increased equity allocations subject to ESG criteria.”

Action stations
Pension schemes are awake to the greenwashing issue from an individual stock perspective and have been working to address it in recent years.

The Border to Coast Pensions Partnership was particularly active on climate issues last year, while the Avon Pension Fund has recently revamped its strategy after liaising with stakeholders.

In 2022, the Pension Protection Fund set out detailed new voting and engagement guidelines designed to reduce the carbon emissions from its portfolio.