The world’s biggest funds focused on ethically-minded investments have been battered this year as their heavy weightings towards technology stocks has left them at the centre of a market squall.
Parnassus Core Equity Fund, with $25.9bn under management, has fallen by over 18 per cent in 2022 while Vanguard’s $14.3bn FTSE Social Index fund is down over 22.5 per cent. Technology is the top sector in both funds, making up 30 per cent of the Vanguard fund’s investments and over a fifth of Parnassus’. Other big ESG funds have also been knocked this year.
The gloomy performance marks a sharp contrast to recent outperformance of ESG funds, when big rallies in tech stocks during the pandemic helped boost funds focused on environmental, social and governance standards.
Tech has typically been a big part of ESG portfolios because their carbon footprints tend to be lower than peers in other industries, and they have policies in place on issues such as diversity and human rights, while making up an outsized proportion of public markets due to their huge size.
“Piggybacking on technology companies’ outsized gains in recent years has boosted the performance of large ESG funds in the past. Now they are suffering collateral damage as a result of the current shakeout in the tech sector”, said Amin Rajan, chief executive of think-tank CREATE-Research.
Microsoft remains the most common and largest position across the 10 biggest ESG funds according to Rumi Mahmood at MSCI. Google parent Alphabet and Apple also make frequent appearances. In contrast, oil and gas companies, which have rallied strongly this year, tend to make up a tiny share of ESG portfolios.
“I don’t think this is purely an ESG funds issue, rather a broad market issue,” Mahmood said. He added that funds that give bigger companies larger weightings will inherently allocate a greater proportion of their assets to such companies because of their enormous market values.
While taking a large position in tech reflects the broad composition of markets, investors in sustainable funds pay a premium for these strategies compared to their conventional peers. Average expenses ratios, weighted by assets, for ESG funds were 0.61 per cent compared with 0.41 per cent for traditional ones, according to Morningstar.
Investor enthusiasm for ESG products eased as performance faltered in the first three months of this year. Sustainable funds brought in nearly $97bn of new investment in the first quarter, a fall of just over 35 per cent compared with the previous quarter and the sharpest slowdown in three years, Morningstar data show.
Despite the slump, flows into ESG funds held up better than the broader market, which saw inflows slide by 73 per cent in the same period as investors worried about rising interest rates, high inflation and the war in Ukraine. ESG funds under management topped $2.77tn in March 2022, nearly triple their level in 2019.
“ESG investors are a wide spectrum and for one segment, yes it’s the performance argument that got them interested in [ESG], but I would say that for a large part of that investing universe, values alignment takes precedence,” Mahmood said.