Average investors want sustainable investment options. New investments in sustainable funds more than doubled in 2020 compared to 2019, reaching a record-high $51 billion, according to investment research firm Morningstar.
But just how sustainable certain funds really are is a matter of debate. A major critique of investments that take environmental, social and governance practices of companies into account — called ESG investing — is that there is really no such thing as a truly sustainable investment.
Instead, it's called out as "marketing hype," as Tariq Fancy, the former chief investment officer for sustainable investing at BlackRock Inc., the world's largest asset manager, recently argued in an op-ed for USA Today.
Rather than taking meaningful action against climate change, the financial industry is simply greenwashing investments, or making false claims about the sustainability of their products, to make money off of a popular trend, Fancy says.
But some funds really are more sustainable than others, says Karen Wallace, Morningstar's director of investor education. And she believes it's worth it for investors to put in effort to find investments that align with their values if that's important to them.
"It means a lot to people that their money is making an impact," says Wallace. "There are good funds out there that are good fits for people's portfolios."
If you're interested in sustainable investing, here are some things to keep in mind.
How to avoid 'greenwashing'
One factor that makes ESG investing complicated is that there aren't set regulations or definitions for what makes something "sustainable," says Wallace. That means it's up to each investor to determine for themselves what practices are most important in a fund.
Some funds are designed specifically to exclude certain industries, such as tobacco, weapons or oil and gas. A second group can be defined as sustainable sector funds, according to Morningstar, and are built around "green economy" companies in industries like renewable energy or water.
A third group of funds can be considered "core" holdings, meaning they're diversified investments for a long-term portfolio, meant to replace things like typical index funds. The new BlackRock U.S. Carbon Transition Readiness ETF (LCTU), for example, is benchmarked against — and meant to outperform — the Russell 1000. It has similar holdings to the Russell 1000, but BlackRock says it has been constructed to have "almost 50% less carbon intensity" than the index.
That said, the fund still holds companies like Chevron and Exxon, which sustainable investors might want to avoid.
Wallace recommends that, just like with any other investment, investors read the prospectus of ESG funds they're interested in, which can be fund by Googling "[fund name] + prospectus," or by simply reading about the fund's aims on its website. This will tell investors what the fund's objective is and list the companies the fund invests in. Investors can then make an informed decision about if it aligns with their values.
Morningstar itself provides a sustainability rating for stocks and funds and has an ESG Screener investors can use to search for funds based on their own sustainability preferences, such as "low carbon." It also provides a list of "stand out" funds in different categories in this blog post.
As You Sow, a nonprofit that promotes corporate social responsibility, also created the Invest Your Values search tools, which investors can use to learn more about their investments. Investors can search the name or symbol of mutual funds or ETFs in one of six search tools, including Deforestation Free Funds and Fossil Free Funds, and will be provided with a "report card" on the fund related to the issue.
No investment is going to solve climate change. But Wallace encourages investors who care about sustainability not to think cynically about the sustainable investments space. There might be some companies that misrepresent products, she says, but there are many others taking sustainability seriously.
"I'm glad sustainable investing is growing, and I think it's great people are interested in their own investments," says Wallace. "If you're mindful of your investing and where your money is going, you feel good about where it's going."
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