EELGOOD firms which put the environment, society and corporate governance – the holy trinity of ESG – at the heart of their operations were the big winners to emerge from 2020’s Covid-19 battered economy.
Equity tracking funds (ETFs) which focus their investments on ethical stocks recovered from the pandemic at a pace and scale which left other sectors standing.
“Covid was the moment,” one senior investment manager told the Standard. “Covid was the stress test for ESG. Before then, people were cynical, saying ESG was a fair-weather phenomenon. They’d say ’just you wait until the next recession, everyone will hunker back in sovereign bonds.’
“Instead, valuations of companies with a strong green ethos – like green energy, EV [electric vehicles] – just blew the roof off.”
For seasoned stock-watchers, it marked the point at which ESG companies began to make sound investment sense in terms of equity valuation, and smashed the myth that investors must forgo returns to invest in a responsible way.
In the US, the Invesco Solar fund posted a 301% year-to-date return. The First Trust Nasdaq Clean Edge Green Energy climbed 164.9% to an all-time high of $68.24.
Meanwhile, the WilderHill New Energy Global Innovation Index (NEX) – which follows UK and EU clean energy firms – zinged back from a low of $156 in early March to sit above $450, a 152% bounce.
Three of the UK’s top 10 performing funds also had a focus on sustainability: Baillie Gifford’s Positive Change and Global Stewardship funds, and the Guinness Sustainable Energy fund.
Among those leading the NEX index in the UK is Ceres Power, a fuel cell technology firm spun out of London’s Imperial College some 20 years ago.
‘It’s almost the perfect storm’
The technology is complicated but the numbers are easier to grasp. Starting 2020 just shy of 250p, by late December its share price was up to a breathtaking at 1270p.
Ceres, based in Horsham, has licensed its clean energy technology to engineering giants including Germany’s Bosch and Chinese engine maker Weichai and added 100 staff through the pandemic, taking its global workforce to around 350.
Phil Caldwell, a one-time chemical engineer for ICI and now its CEO, said: “A lot of people think this is just hype in the share price because ESG is hot, but you have to look beyond that to the fundamentals.
“It’s almost the perfect storm. The disruption that’s happening in conventional industries like automotives, oil & gas, and utilities having to decarbonise and move towards electrification. It has all driven a market for our technology like never before.
“ESG is becoming a mainstream criteria rather than one on the periphery. On top of that, you have all the major economies looking for a green bounceback from the pandemic while the financial markets are looking at opportunities for growth while there’s very few around.
“So most oil and gas companies have probably halved in the period we have gone up by a factor of four or five.”
There are two key drivers at play, say asset managers. On the one hand, socially-conscious investors are being more vocal, demanding companies within their portfolios pay more than just lip service to ESG concerns.
On the other, stricter regulation backed by a tightening of rules on corporate disclosure is looming across Europe, Asia and, with the arrival of Joe Biden, in the US.
Local factors are also at play. In the UK, Brexit is a helping to push forward an environmental arms race with Boris Johnson’s government putting investment in green technology at the forefront of its pandemic recovery plans to hit net-zero carbon emissions by 2050 while forging the ‘Saudi Arabia of wind’.
While in the EU, companies are feeling the growing influence of the Network for Greening the Financial System (NGFS) a network of central banks and financial supervisors which aims to accelerate the scaling up of green finance.
The impact on the broader investment landscape has caused even giants of industry to take notice, with a raft of firms from BP and Shell to Unliever, GlaxoSmithKline and AstraZeneca announcing moves towards net-zero emissions across their operations and supply chains.
Nestle, the world’s largest food producer and a frequent target of activists, has pledged $2bn to reduce plastic in packaging and committed some $3.6bn to slash its carbon emissions.
Geoffrey Smith, contributor at Investing.com, said: “It costs a lot of money to stay on the right side of the ESG crowd. However, management at Nestle obviously consider that it will cost shareholders more in the long run if it doesn’t.
“Nestle cannot afford to be dumped by such funds for doing too little. The announcement looks expensive, but unavoidable,” he added.
Steven Fine, boss of investment house Peel Hunt, agrees. He said: “ESG is absolutely real and is the speed at which it’s growing as a factor in driving investment is phenomenal.
“It’s not just younger investors. We are seeing this across the board – and in my opinion a firm’s ESG rating will soon be more important than its credit rating. Treat it lightly at your peril.”
Fine makes a key point: there are no universally agreed benchmarks for success across what can be quite nebulous criteria, leading to accusations that the rush to jump aboard the ESG bandwagon is open to exploitation from box-tickers.
There is pressure for change. In September, leaders of the UK’s Big Four accounting firms unveiled joint initiative to encourage large global companies to adopt standard metrics in their 2021 accounts.
Lamenting the current “alphabet soup” of metrics, Deloitte boss Punit Renjen told the Financial Times. “It is important for us to have a common set of standards and if there is widespread adoption it will lead to change in behaviour.”
Fund managers, however, remain confident that while it is only natural to expect some pullback as early investors take profits from this year’s tear, the longer-term future remains sound.
Laith Khalaf, of AJ Bell, said: “It’s been a record-breaking year for ethical fund sales in the UK, but they still only make up 3% of total funds under management across fund providers, which shows there’s still plenty of scope for growth.
“On top of concerted global efforts to hold back climate change, the election of Joe Biden as US President has also proved positive for clean energy stocks.
“There are some areas which look overbought though – Tesla stock has risen eightfold in price over the course of the last year, and is now trading at around 600 times earnings. However this is a stock where the plentiful short sellers have been continually burnt by betting against its meteoric rise. ”
Nigel Green, CEO of deVere, told a Reuters round-table: “Millennials cite ESG investing as their top priority when considering investment opportunities. This is crucial because the biggest ever generational transfer of wealth — likely to be around $30trn — from baby boomers to millennials will take place in the next few years.
“ESG investing was already going to reshape the investment landscape in this new decade — but the coronavirus will quicken the pace of this reshaping.”