Investors pile $54bn in to ESG bond funds in fiery start to 2021

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Investors poured $54bn in to bond funds specialising in environmental, social and governance issues in the first five months of 2021, even as concerns over potential “greenwashing” have escalated.

After several years of bumper sales of equity products that focus on ESG, investors are now turning their attention to fixed-income funds, according to figures collated by Morningstar, the data provider. 

In total, sales of all ESG bond funds hit $54bn in the year to the end of May, compared with almost $68bn for all of 2020. The data cover open-ended funds and exchange traded funds globally.

Assets under management in the products increased 14 per cent to $374bn between January and May, while they have almost tripled in three years. In 2020 alone, assets surged 66 per cent, compared with a 12 per cent increase in assets for the entire fixed-income fund universe.

The soaring demand has prompted a rush of new fund launches, while companies and governments have unveiled swaths of social and green bonds to tap into the trend. But rising interest has prompted concerns of so-called greenwashing, including fears that some bond funds are not as sustainable as they claim to be and that fund managers are finding it difficult to decipher their ESG credentials.

Jose Garcia-Zarate, associate director at Morningstar, said that there “is a clear trend in favour of ESG growth, particularly in Europe”, but many fund managers are struggling with “how to apply ESG principles to certain bond markets”. He said attempting to label government bonds with ESG criteria had proved “very, very tricky” as there “is still no consensus on how to go about classifying governments and countries”.

Demand for ESG bond funds is concentrated in Europe, but other regions were starting to see interest, said Garcia-Zarate. In the US, sales of ESG bond funds stood at $4.75bn in the first five months of 2021, compared with $5.92bn for all of last year.

There is also growing demand for passively managed ESG bond funds, which typically track indices. More than $17bn has been invested in these products this year, surpassing last year’s record of $15.6bn, according to Morningstar.

Colin Purdie, chief investment officer for liquid markets at Aviva Investors, which recently launched a bond fund focused on the climate transition, said: “ESG momentum is everywhere . . . It is no surprise we are seeing fund launches coming through.”

Morningstar data show there were 122 new ESG bond funds launched last year, with a further 44 new offerings in the first quarter of 2021.

But Purdie added that there were challenges for fixed income investors when it came to ESG: “There is a view that ESG is easier in equities and one reason for that is because of data,” he said.

In areas such as high yield or emerging markets, typically considered more speculative investments, data disclosure around ESG remains an issue. “There is a higher resource requirement in credit to ensure you have the information you need,” he said.

Despite this, issuers have been racing to market with new sustainable debt. Data from BloombergNEF show $245.3bn in green bonds have been issued this year, $83.8bn in sustainability bonds and a further $129.2bn in social bonds. In contrast, in the five months to the end of May 2020, $91.44bn in green bonds were issued, and a further $15.21bn in sustainability bonds and $27.87bn in social bonds.

Column chart of Net assets under management ($bn) showing Bond funds tap into booming investors' insatiable ESG appetite

Bryn Jones, who runs the Rathbone Ethical Bond fund, one of the oldest and largest ESG fixed income funds, said there has been a “big increase in supply” of green and social bonds during his 17 years running the fund.

He said demand for ESG bond funds was being driven by a combination of regulation, such as efforts in the UK to get pension funds to consider the impact of ESG on investments, as well as new cohorts of investors, such as millennials and younger investors who are interested in seeing their money do good as well as generate returns.

Despite the rapid rise in demand for ESG bond funds, they still only account for less than one-fifth of total sustainable fund assets, according to Morningstar.

A survey of Nordic and Dutch investors by NN Investment Partners in May found that nearly half of those polled say green bonds are their preferred fixed income option. Some 81 per cent of Nordic and Dutch pensions said they were already invested in green bonds.

But those surveyed also expressed concerns about greenwashing by companies, saying this was the biggest barrier to investment.

Simon Bond, director of responsible investment portfolio management at Columbia Threadneedle Investments, said that although there had been some cases where issuers have been accused of this, the problem was not widespread. But Bond added the growing attention to greenwashing was positive.

“That is a good thing. It is shining a light on that dark corner. It is quite hard to hide when you are having that light shined in this corner of ESG,” he said.

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