Outlook: Where will ESG product demand be in 2021?

As part of our wider ESG industry outlook series, commenters say launches of passive, impact and fixed income products will continue

Demand for ESG investing reached new highs in 2020 with assets under management (AUM) in sustainable funds across the global universe topping $1trn in June. Commentators expect more of the same even amid the market volatility surrounding the global pandemic.

Morningstar recorded global sustainable funds topped $1trn in June and AUM sat at $1.23bn by the end of the third quarter, the data provider’s latest figures.

More recently, the Investment Association reported responsible investment funds continued to experience strong flows in the UK, with a new monthly high of £1.1bn in net retail sales in November 2020 bringing the AUM total for responsible funds to £43bn.

With such significant flows in 2020 came an “unprecedented” number of new products with 166 new offerings launched to the European market alone in the third quarter, according to Morningstar. TrackInsight reported global ESG ETFs brought to the market last year neared 200.

Hortense Bioy, director of sustainability research, EMEA and APAC at Morningstar and ESG Clarity editorial panellist, commented last year: “The high level of product development we’re seeing in the European ESG space is unprecedented and, in part, in response to the European regulator that is aiming to reorient capital towards sustainable activities and align to the EU goal of net zero carbon emission by 2050.”

Among the new launches in 2020, more than a quarter had an environmental flavour with products aligned with the climate targets set out in the Paris Agreement, based on the EU Sustainable Finance climate benchmark guidelines.

Passives

According to commentators, we can expect more environment-oriented products to be brought to the market, but the industry will also see expansion in impact and fixed income as well as passive products, and maybe fewer equity launches.

“There is no doubt the demand for ESG will continue,” said Therese Niklasson, global head of ESG at Ninety One.

“It is becoming much less about the equity story and is being embedded across asset classes from the super active, such as hedge funds, through to passives.”

Jim Wood-Smith, CIO private clients and head of research at Hawksmoor Investment Management, highlighted regulation will mean everyone in financial services will need to have ESG embedded into their suitability processes and “this will naturally drive demand for ESG investment products and services”.

See also: – The coming of age of ESG ETFs

Although commentators predicted a rise in the number of ESG passive products to market, they were quick to caveat this with the challenges these vehicles could potentially face.

Wood-Smith said: “2021 is likely to bring a large increase in the amount of off-the-shelf passive product that is made available,” but warned he is not sure this is a positive for the industry.

“There are profound conceptual issues with attempted ESG trackers, but the low costs will always attract buyers. The likely popularity of these products is also going to concentrate buying into a relatively small number of ‘ESG darlings’, the stocks that score best either on simple ESG metrics or on measures of positive impact.”

Impact

Dan Kemp, CIO EMEA at Morningstar Investment Management and ESG Clarity editorial panellist, agreed ESG passives will continue to grow but said passives will find it difficult to cover all aspects of the ESG product spectrum: “Product development in the ESG space has been dominated by index tracking ETFs and there is little evidence that this will abate. This in turn determines the flavours of ESG funds being launched. For example, it is more difficult to operate an impact fund as a passive index tracking product.

“I’m therefore hopeful for more high-quality product development from active managers with the resources and expertise to make a positive impact on behalf of their investors.”

See also: – The Impact Revolution: Making a profit and changing the world can go hand-in-hand

Hamid Amoura, head of responsible investing at Mirabaud Asset Management, echoed the sentiment that impact products will be a key area of focus in 2021. Indeed, a number of asset managers including Schroders and M&G told ESG Clarity in exclusive interviews that impact investing is high on their agenda.

“We expect new fund launches will be more oriented towards impact and thematic investing,“ said Amoura. “This might be further enhanced as clients are also becoming increasingly impact-aware in their investment decisions.”

He added: “The world is increasingly facing shaping megatrends, such as renewable energy, energy efficiency, automation and innovation…and we expect to see a large amount of new funds launched to take advantage of the opportunity.”

Fixed income

ESG bonds was another predicted area for vast growth in 2021, off the back of record green and social bond issuance in 2019 and again in 2020.

The green finance market reached its most substantial milestone yet in early December, with $1.002trn in cumulative issuance since market inception in 2007, according to the Climate Bonds Green Bond Database.

Johann Plé, green bonds strategy manager at AXA Investment Managers and Federated Hermes’ head of investment Eoin Murray both agree this momentum will continue to grow this year, with the former predicting believe 2021 will be another record year for the market topping $1trn in issuance.

See also: – Companies embarking on first foray into green bonds

“Many governments have committed to a net-zero carbon pledge, and many more should follow,” said Plé. “In total, 26 countries now, or are about to, have a net-zero carbon pledge set in law and many others are currently discussing potential targets. However, only 11 governments have already launched sovereign green bonds.

“We expect this figure to grow as an increasing number of countries are due to put their words and commitment into action and investments, which are likely to be financed through green bonds. Even though many countries are still working on defining targets and how to reach them, it signifies the strong momentum of the move to sovereign bonds financing environmental projects. After Germany, Hungary, Sweden and the Netherlands launching theirs over 2020, Italy, Spain and the UK have already pledged to issue a green bond and certainly many others are likely to follow.”

On the credit side he added that once a new issuer of a new sector joins the market, it paves the way for others to follow. “This is really encouraging for sectors such as automotive, telecoms or real estate, which have huge potential for further green issuances given that the potential number of peers to follow remains large,” Plé said.

Murray added he believes issuance in 2021 of green bonds – particularly those that are performance linked – will “increase exponentially as a proportion of total issuance from where it is today”.

“Sovereigns are already placing greater importance on green financing with the UK announcing plans for its first green gilt and talks of the US following suit under a Joe Biden administration. In addition, all issuers, sovereign, municipal and corporate, will come to rely on performance bonds.

“In 2020 we launched our SDG Engagement High Yield Fund and in 2021 we will see increased momentum behind investors engaging with firms as issuers of debt as well as equity, as they seek to understand companies’ sustainability issues on all levels. The UN SDGs provide a valuable framework for engaging to create more impactful and successful companies and can help enable all stakeholders to fulfil their potential as sustainable investors.”

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Natalie Kenway

Natalie is global head of ESG insight for ESG Clarity and has been an investment journalist for 16 years. She won Editor of the Year at the Aviva Investors Sustainability Media Awards 2021, and was Winner...