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As Investors Try To Be More Ethical, Some Find No Escape From Businesses They Detest

Investors are spending billions of dollars to align their portfolios with their personal values. But there's little agreement on what exactly qualifies — or disqualifies — an investment option from being marketed as sustainable. Above, pedestrians walk past the New York Stock Exchange on June 10.

If you're an investor with ardent social beliefs — and you aspire to put your money where your mouth is — you're in luck. Today, on Wall Street and beyond, socially responsible investment options abound.

For those distressed by gun violence, new weapon-free funds divert dollars from firearms manufacturers and large gun retailers. If climate change is your biggest concern, there are funds that dodge investments in oil and gas giants. And for the staunchest animal advocates on the market, a Vegan Climate Index vows that investor dollars will not, under any circumstances, harm a living creature.

Increasingly, investors are taking pains to align their portfolios with their personal values, and activists are urging financial institutions to divest from companies implicated in everything from climate change and gun violence to worker exploitation. This year, 85% of individual investors surveyed indicated interest in ensuring that their money backs companies with sustainable practices, according to a Morgan Stanley poll. This is up 10 percentage points from just two years ago.

Driving this uptick has been interest among millennials: 95% signaled an interest in sustainable investment, according to the poll, with many citing their belief that their dollars have the power to alleviate poverty and slow climate change.

In response, some of the world's largest financial institutions have launched new "sustainable" investment options and adorned them with a sweeping — and according to some experts, problematic — modern label: environmental, social and governance, or ESG, investing.

Since 2015, the number of sustainable investment options has boomed, with the launch of 133 new ESG funds, according to research by Morningstar. By the end of 2018, more than 350 sustainable funds were available to investors, amounting to $161 billion worth of assets under management.

This surge comes despite a long-held view among many on Wall Street that fusing finance with ethical considerations might cost shareholders otherwise competitive returns. But now, some of the world's largest companies are not only acknowledging the importance of issues such as climate change, human rights and social inequality — but finding that doing so can help boost the bottom line.

"The world today faces unprecedented sustainability challenges, and that means that companies also face sustainability changes, ESG challenges," said Jon Hale, head of sustainability research at Morningstar. "Therefore, investors need to understand what role these issues play in a company's financial viability."

An "ambiguous field"

Still, despite the growing popularity of ESG investing, sustainable investment remains a largely "ambiguous field," according to Linda-Eling Lee, global head of the ESG research group at index giant MSCI.

That means no one can quite agree on what exactly qualifies — or disqualifies — an investment option from being marketed as sustainable. This has fueled skepticism among investors, activists and lawmakers alike regarding the legitimacy of ESG investing.

Lee said the ambiguity stems from several causes. For starters, there's a range of investment strategies underlying ESG funds, and these are often more nuanced than investors expect.

Lee said customers often assume ESG options are "purely values based" and therefore devoid of stocks tied to activities like deforestation or gun manufacturing.

This idea dates back to the divestment campaigns of the 1960s, '70s and '80s, when activists began calling on financial institutions to divest from companies with ties to activities such as apartheid in South Africa and tobacco production.

But funds that carry the ESG label don't always guarantee divestment, Lee said, because ESG isn't "necessarily aiming to be aligned with individual investors' values."

It comes back to strategy. Some funds, for example, allow customers to strictly focus their investments on a certain theme — such as climate change or diversity in corporate leadership. That can mean certain companies or industries are excluded from the fund entirely.

Other times, ethical factors may inform how the fund is created, but they don't explicitly dictate which stocks are included. In this case, Hale explained, the fund would be "tilted" toward sustainability leaders and away from sustainability "laggards" in a given industry. But that tilt doesn't automatically eliminate companies based on factors such as their carbon footprint or how well they pay workers.

Ben Cushing, a campaigner with the Sierra Club, said this means that many funds carry the sustainable label despite including stocks of companies that many investors would think "go against the spirit" of ESG investing.

For example, BlackRock, the world's largest asset manager, offers an array of sustainable investment options to U.S. customers. But according to a recent report by a coalition of environmental groups, including the Sierra Club, 10 of those "green" products contain over $423 million in fossil fuel stocks and $29 million in holdings tied to deforestation in the Southern Hemisphere. The report says that in this way, some investment options that are marketed as sustainable in fact directly "funnel money into the very problem many of its customers wish to avoid."

Murals painted by climate activists are seen from an office building on Montgomery Street in San Francisco on Sept. 25.
Jeff Chiu / AP
Murals painted by climate activists are seen from an office building on Montgomery Street in San Francisco on Sept. 25.

A spokesperson for BlackRock said, "There is not one single approach to applying ESG considerations to an investment portfolio" but that the company offers funds that target "the top ESG-rated companies across all sectors, including energy."

What results, according to Hale, is a lot of investors saying, "Look, I don't get what's the big deal. You kind of sold me on this whole ESG thing, and then you give me a portfolio that looks pretty conventional."

'No widely accepted standard'

This, Cushing said, represents a natural outgrowth of the fact that "there is no widely accepted standard of what ESG means in the marketplace."

"If you're just a person looking to invest your savings and you don't want that money to go to the destruction of the planet, it's really hard to figure out what is a truly sustainable investment or not because ESG is not well defined and well regulated," Cushing said.

It's a problem that is only becoming more urgent, experts say, given the growing demand for ESG products.

One proposal, introduced this summer by Sen. Elizabeth Warren, D-Mass., attempts to address one aspect of the issue by requiring all publicly traded companies to report their exposure to climate-related risks, as well as how they're planning to address them, to the Securities and Exchange Commission. The plan has drawn rebukes from Republicans in Congress, who say that mandating such disclosure would stifle competition and burden companies with unnecessary regulation.

Regardless of what happens in Congress, some experts say the demand for ESG investing could make more transparency unavoidable. Lee, of MSCI, expects that firms will soon have to compete for millennials' business by marketing their sustainable investment options as clearly as possible.

"What we should do, as an industry, is to make sure that that labeling is actually very clear and easy to understand as opposed to being very much in the fine print or jargon," she said.

Lee said that investing is "not unlike buying food" — customers are responsible for their portfolios and have access to information that allows them to peek "under the hood" of any ESG product they might be interested in.

Cushing said the onus should be on companies, not consumers.

The "climate crisis is deepening by the day," he said, and firms have a responsibility when it comes to shifting trillions of dollars away from fossil fuel economies and into clean energy solutions, like wind and solar power.

"At the very least, they should not be marketing funds as ESG when they contain fossil fuel companies and pipeline companies."

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