Why did ESG investing lose its mojo?

Nine months into Russia’s war in Ukraine, and following the recent surge in ‘greenwashing’ as companies try to improve their clean-green moniker, investors have every right to ask: What the hell happened to ethical, social and governance (ESG) investing?

If ASX-listed pure-plays into ESG investing, like Australian Ethical Fund (ASX: AEF) and EFT Ishares Core MSCI World Ex Aus Esg Leaders ETF (ASX: IWLD) are any proxy, the ESG surge reached its zenith early November 2021 and has been on a rapid, albeit, bumpy decent ever since.

Rise and fall of ESG investing

Investor euphoria for ESG investing – as witnessed by the Australian Ethical Fund shareholders - started mid-March 2020 when the midcap fund was trading at $2.89.

Over the ensuing 20 months the stock’s share price was up over 400% to $14.76, before falling off a cliff (currently $4.77).

If you had held the stock, would you have locked in your profits, or let them run indefinitely?

By comparison, while the ishares Core MSCI World Ex Aus Esg Leaders ETF took off at the same time as Australian Ethical, it didn’t start its descent until a month later, at end of 2021.

Between mid-March 2020 and the end of 2021, the EFT’s share price jumped 52% from $30.64 60 to 46.82, before starting to unravel.

Along came Putin

Interestingly, while both stocks started to unravel weeks before Russian troops invaded Ukraine, Putin’s decision to invade his neighbour led to more rapid falls.

In short, war in Ukraine appears to have been an inflection point for what was promising to be a year in which investors would embrace stocks purporting to have ESG credentials.

Since then, investor euphoria over ‘all-things-ESG’ appears to have been replaced with a back-to-reality rethink over what ESG investing really achieves.

In short, the ESG moral high ground appears to have taken a back seat to a more pragmatic approach by countries to put their foot on resources that were becoming progressively scarce and this ignited a commodities rally.

What gives a company ESG kudos?

Putin’s war aside, the head-scratching holdings included within ESG exchange-traded funds, has only ignited investor cynicism over how some companies with ESG credentials are being screened.

Here’s a quick insight into the lens through which a company’s ESG credentials are being evaluated.

It’s a tale of two diametrically different types of companies.

The first cohort are the corporate 'good guys': They offer goods and services that consumers' use without reservation, while also making efforts to change society, that if push comes to shove, they can demonstrate.

Then there’s the more exclusive cohort at the forefront of energy transition, waste management, water resources or educational access as their primary activity.

By this definition, stocks like Fortescue Metals (ASX: FMG), Origin Energy (ASX: ORG), AGL (ASX: AGL), BHP (ASX: BHP) and Woodside (ASX: WDS) and Macquarie Group (ASX: MQG) all earn ESG credentials based on the capex they’re investing transitioning to clean technologies.

What companies do these two funds investment in?

So that said, let’s take a look at the sorts of companies the two above-mentioned funds deem worthy of investing in based on their ESG qualities.

iShares Core MSCI World Ex Aus Esg Leaders ETF

The Fund aims to provide investors with the performance of the MSCI World Ex Australia Custom ESG Leaders Index, before fees and expenses.

The index is designed to measure the performance of global, developed market large and mid-capitalisation companies with better sustainability credentials relative to their sector peers.

Fund details

• Distribution Frequency: Semi-Annual

• Number of Holdings: 691

• Net Assets: $523,846,713

• Management Fee: 0.09

Top 10 stocks

Australian Ethical Fund

Only around 50% of companies on the fund's benchmark, the S&P/ASX 300 index, earn environmental and social approval from the fund's research team.

The fund filters against positive and negative screen and generally avoid stocks exposed to fossil fuels.

Fund details

• Distribution frequency: Twice yearly

• Management fees: 1.10%

• Minimum investment: $25,000

• Fund size: $587m