If you’ve thought about essential workers, food supply chains or diversity recently, you’ll understand why sustainable investing gained more momentum during the COVID-19 crisis.
Sustainable investing is an umbrella term for investment approaches that incorporate financial as well as social and environmental objectives. As economic recovery from the pandemic-induced recession begins to come into view, investor interest is surging in strategies that integrate environmental, social and governance (ESG) factors. And a growing body of evidence shows that companies with strong ESG profiles have the potential to be more resilient at times of uncertainty and to deliver robust, risk-adjusted returns.
Sustainable investing aligns with long-term global megatrends, as well. Here, we examine why identifying high-quality companies through an ESG lens may offer enduring opportunities for the long-term investor.
Sustainable investing has been growing in popularity over the past few years, but interest and awareness appear to have accelerated during the pandemic—COVID-19 has highlighted to investors that ESG factors are relevant, especially in a time of crisis.
- Sustainable equities have outperformed traditional equities this year: Though some people may have viewed sustainable investing as a “bull market luxury,” its strong momentum before the pandemic crisis has not faltered. Instead, companies with stronger ESG profiles have been rewarded. Year-to-date, ESG global equity indices, made up of companies with strong ESG profiles, have outperformed traditional market indices. See chart below.
ESG Leaders Indices have outperformed the broader market
- Sentiment is positive: More than half of global institutional investors surveyed by J.P. Morgan Investment Bank in March 2020 said they thought the crisis had positive implications for ESG momentum in the next three years.1
- Flows are surging into sustainable and ESG funds: After two record-setting years (2018 and 2019) for inflows, investor money surged into sustainable funds again in 2020, while in the first quarter, it flowed out of conventional funds.2 In fact, as of May there hadn’t been a single week of outflows from global sustainable exchange-traded funds (ETFs)—not even during March’s deep sell-off.3 Some forecasters expect the strength in flows will likely continue.4
More balance among E, S and G ahead
COVID-19 has heightened the focus on “social” (S) and “governance” (G) in ESG.5 The disease has disproportionately affected racial and ethnic minority groups, throwing a spotlight on social inequities. Headlines have scrutinized corporate behavior related to layoffs, sick leave, the safety of working conditions and whether companies had fair relationships with their suppliers and customers.
S: Well-being comes to the fore: Investors’ belief that ESG will become even more relevant is particularly true for the social pillar, which considers human capital one of its key concerns. We think investors will give greater consideration to companies paying attention to the well-being of their employees, both during and after the crisis. More scrutiny will likely also be placed on companies’ treatment of suppliers, customers and communities, and the resilience of supply chains, where a trend of relocalization is likely to occur.
G: Good governance could matter even more
The pandemic, and related market turmoil, posed significant operational risks to companies. This has led many investors to focus on governance issues, on expectations that well-governed firms will be more resilient in response to current and future challenges. In the face of COVID-19, investors are paying attention to how corporates are allocating capital. For example, is management prioritizing executive compensation, even amid pandemic-driven layoffs? How are dividends and buybacks being handled? A heightened focus on management and board demographics is likely as well, since diversity in leadership tends to bring a more holistic set of opinions to business decision making.
Doing well on these measures may indicate a company better positioned to function smoothly and, over time, enhance its intangible value by making more prudent strategic decisions.6
E: The environmental factor
Demand for fossil fuels decreased over the first quarter, while at the same time demand for renewable fuel—used largely for electricity generation—held up. This could suggest investors are ready to invest in the energy transition from fossil fuels to renewables, a trend that presents many sustainable investment opportunities.7
The economics support this scenario: Wind and solar surpassed coal as a source of European Union (EU) electricity generation in 2019, and year-to-date in the United Kingdom and United States.8 While renewables were historically not cost competitive with traditional sources of energy, the costs of renewable energy have come down 70% to 90% since 2009.9
Further support for the energy transition should come from government. The EU’s recently announced recovery spending package will support sustainable infrastructure, the electrification of transport, use of renewable resources and the like. In Asia, Korea has announced a new green deal recovery package.
Sustainable investing aligns with secular growth opportunities
We see sustainability as a potential long-term growth area for portfolios because it aligns with what we consider secular growth trends—long-term shifts in societies and economies. Some durable trends that potentially offer attractive investment opportunities include clean energy (the transition to renewables), sustainable consumer products and electric vehicles.
Take renewable energy: It’s still very early-stage, making up less than one-fifth of the energy mix globally. Industry analysts’ expectations are for significant growth globally: a 40% share of electricity generation by 2030 and more than 60% by 2050.10
Consumer products marketed as sustainable are already experiencing strong demand, but they account for less than 20% of all U.S. sales.11 We anticipate companies will continue to innovate and adapt to shifting consumer and investor expectations so they don’t get left behind.
Finally, investments in electric vehicles (EVs) and their supporting infrastructure are likely to be rewarded, as EVs are expected to account for about 58% of vehicle sales and to make up about a third of all passenger vehicles on the road by 2040.12 Forward-looking investors can find opportunities to capitalize on these trends.
Sustainable investing as a smart long-term investment strategy
Integrating ESG considerations into portfolio analysis can highlight important company information that has a real financial impact. Companies with superior ESG profiles tend to be more competitive, more profitable and have better risk controls, driving strong returns.
As we look ahead to life after COVID-19, we see ESG factors as increasingly relevant to investment analysis, while investors can look to long-term sustainability trends as an area for further growth. Speak with your J.P. Morgan team about what sustainable investing might mean for your portfolio and long-term goals.
1“Stay safe and think long term—Investor Survey on the impact of COVID-19 on ESG investing,” J.P. Morgan Cazenove, March 2020. J.P. Morgan polled investors from 50 global institutions, representing a total of USD12.9 trillion in assets under management, on how they expected COVID-19 would impact the future of ESG investing.
2“Global Sustainable Fund Flows,” Morningstar (May 2020). In the first quarter of 2020, ESG fund flows were up USD45.6 billion, while traditional funds experienced USD384.7 billion of outflows.
3“Equity and FI U.S. and Europe-based ETF flows—January 6 to May 8, 2020,” Bloomberg, May 2020.
4For more on ESG fund flows, which quadrupled from 2018 to 2019, see Jon Hale, “Sustainable Funds U.S. Landscape Report—Record flows and strong fund performance in 2019,” Morningstar Research, February 14, 2020.
5Jean-Xavier Hecker et al., “COVID-19 likely to be a long-term catalyst for more balanced ESG investing,” ESG & Sustainability Research, J.P. Morgan Cazenove, March 30, 2020.
7“Global Energy Review 2020,” International Energy Agency, April 2020, https://www.iea.org/reports/global-energy-review-2020.
8According to the U.S. Energy Information Administration; “UK Electricity January to March 2020,” UK Government Publishing Service, June 2020, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/894953/Electricity_June_2020.pdf Agora Energiewende, 2019 and International Energy Agency (2020).
9“Lazard’s Levelized Cost of Energy Analysis 12.0,” November 2018. Represents the mean LCOE, measured in USD per megawatt hour. LCOE: levelized cost of energy, the net present value of the unit-cost of electricity of the lifetime of a generated asset, a proxy for the average price a generating asset must receive to break even over its lifetime.
10“New Energy Outlook 2019,” BloombergNEF, September 2019.
11“Research on IRI Purchasing Data (2013–2018),” NYU Stern Center for Sustainable Business, March 11, 2019. The total value of sustainability-marketed products is estimated based on sales of 36 product categories.
12“Electric Vehicle Outlook,” BloombergNEF, 2020.