Sustainable investing strategies that avoid energy have been performing better than their peers and some broader benchmarks during the market meltdown caused by the COVID-19 pandemic and exacerbated by a glut in global oil.
The results, alongside a depressed outlook for oil, could prompt more investors to look more closely at environmental, social and governance, or ESG, strategies that exclude fossil fuel companies, following the lead of some institutional and other investors in recent years.
The iShares Jantzi Social ETF (XEN), Canada’s oldest sustainable exchange-traded fund with about 9.2 per cent of its holdings in energy, has dropped by about 22 per cent year to date as of Tuesday’s close. The iShares ESG MSCI Canada ETF (XESG), with about 12 per cent of its holdings in energy, is down nearly 18 per cent.
That compares with an 8.3-per-cent drop in the fossil-fuel-free Horizons Global Sustainable Leaders Index ETF (ETHI) over the same period. The Desjardins RI Global Multifactor Fossil Fuel Reserves Free ETF (DRFG) is down 9.5 per cent.
The iShares S&P TSX 60 Index ETF (XIU), which tracks the performance of the S&P/TSX 60 Index and has 14.1 per cent of its holdings in energy, was down about 16 per cent year to date as of Tuesday’s close.
"The fossil-fuel-free strategies understandably have been the ones that have outperformed year-to-date," says Tim Nash, an independent investment coach at Good Investing in Toronto, citing the plunge in oil prices.
Oil prices are in a brutal selloff amid excess global supply, compounded by a significant drop in consumption as a result of COVID-19 stay-home orders worldwide. On Tuesday, the June futures contract – now the most active for West Texas Intermediate oil – plunged US$8.86, or 43 per cent, to US$11.57.
Mr. Nash says some investors might look at the slump in oil as a buying opportunity, but urges caution. “I think we'll start seeing dividend cuts, bankruptcies and more bad news for investors in the energy sector,” he says.
Some ESG funds that have outperformed also have a higher exposure to technology, a sector that has benefited from people staying home during the pandemic and relying on digital communication to remain connected.
For example, only 3.4 per cent of XEN’s holdings and just 8.5 per cent of XESG’s holdings are in information technology. That compares with about 32.4 per cent of IT holdings for ETHI and 17.7 per cent for DRFG.
Dustyn Lanz, chief executive of the Toronto-based Responsible Investment Association (RIA), says some funds that are underweight energy or are fossil-fuel-free are outperforming their benchmarks, but cautions investors against making performance bets based on a single sector.
“Just because a fund excludes a sector or is marketed as ESG isn’t an indicator of performance on its own. You have to dig a bit deeper to see what the strategies are,” Mr. Lanz says, citing examples such as asset allocation and stock selection in a particular ESG fund.
He points out that ESG funds over all have outperformed their average asset class in the first quarter of 2020, which includes the global market rout caused by the economic impact of the COVID-19 crisis.
RIA released results from Fundata last week showing that 83 per cent of Canadian responsible investment funds outperformed their average asset class return in the first quarter, while 80 per cent outperformed over the one-year period ended Mar. 31.
“This crisis has given ESG factors an opportunity to … demonstrate their value from a purely financial perspective,” Mr. Lanz says.
The research also shows more than seven in 10 responsible investment funds outperformed their average asset class return over the three-year, five-year and 10-year periods ended Mar. 31.
Morningstar data show a similar outperformance by ESG funds so far this year, compared with those without the responsible investing mandate. Morningstar looked at 73 Canadian ESG mutual funds and ETFs it ranks and found about three-quarters of them beat their category peers year to date as of April 13.
Among the funds examined, the majority have less than 5-per-cent exposure to the energy sector, says Ian Tam, director of investment research for Canada at Morningstar.
“When you compare ESG funds versus their peers, having a sustainable tilt seems to have helped in this bear market,” Mr. Tam says.
He also says that about $1-billion in assets have flowed into sustainable funds during the first three months of 2020, compared with an outflow of $52-million in the same period a year earlier, highlighting a growing interest in the sector.
Morningstar estimates the total size of assets invested in sustainable funds in Canada has grown to about $7.5-billion as of March 31, up from $6.5-billion a year earlier.
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