13 ESG Investing Trends to Watch for in 2020

1. Climate becomes first among equals in ESG.

“The World Economic Forum risk map determines that all five top risks are now climate-change related, with extreme weather as the number one global risk. Climate change was by far the most discussed and actionable theme this year in Davos, from both a market and corporate perspective,” Haim Israel,
Bank of America’s
head of thematic investments research, told Barron’s in an email.

Israel warns that 1.8 billion people could suffer absolute water scarcity by 2025, 800 million people are at risks from rising sea levels, and “climate migration” could reach 143 million from Latin America, sub-Saharan Africa, and Southeast Asia. There is even a climate angle to the coronavirus, which originated in a Wuhan market where wild animals are traded illegally. As wild animals lose their habitats due to pollution and deforestation, new diseases will attack humans.

At the Davos conference,
Salesforce.com
(ticker: CRM) announced it would plant a trillion trees over the next 10 years. Bank of America (BAC) said it achieved carbon neutrality earlier than expected.
Starbucks
(SBUX) committed to a 50% reduction in emissions. “Having hit a tipping point, we can expect to see substantial rapid and perhaps unexpected change in how companies are addressing climate change,” said John Streur, CEO of Calvert Research & Management.

2. Central banks will speak loudly about climate risks in 2020.

This year, the Bank for International Settlements—the central bank for central banks—said that climate change could trigger “potentially extremely financially disruptive events that could be behind the next systemic financial crisis.” At Davos, European Central Bank chief Christine Lagarde sparred with U.S. Treasury Secretary Steven Mnuchin about global warming. Other central banks are also sounding the alarm. Last year, the San Francisco Fed held its first conference on climate change.

3. Wall Street will write lots more than you’ve seen in the past 10 years about climate change.

“The fact that [Davos] made climate change a major discussion theme demonstrates they’re under a lot of pressure to do something about this issue. Prosperity has been fueled by fuel,” says Ed Yardeni, the financial market researcher. There are plenty of short-term implications for shareholders, he notes: “How does this impact the outlook for spending plans and earnings if [companies] wind up having to spend more to reduce their carbon footprint? This will weigh on earnings.” You’ll see more reports like
Société Générale’s
recent “What impact do high-level ESG controversies have on share prices?” (answer: quite a lot, mostly negative) or RBC Capital Markets’ new “ESG Scoop.”

4. Global warming will present lots of money-making opportunities.

The climate solutions market could double from $1 trillion a year now to $2 trillion a year by 2025, says BofA’s Israel, including renewables, electric vehicles, batteries, biofuels, and circular economy plays. In addition, “moonshots” such as climate-controlled farming and carbon capture may draw lots of investor money. Janney Montgomery strategist Mike Halloran believes opportunities can be found in industrials (50% of energy consumption), agriculture (11% of global greenhouse gas emissions), and mining (12% of emissions).

5. Divestment from fossil fuels will increasingly be normalized, particularly after BlackRock CEO Larry Fink, a couple of days before Davos, announced that the behemoth firm’s active funds would limit investing in coal companies.

Investors like Asha Mehta, director of responsible investing at Acadian Asset Management, had already haircut investments for a possible carbon tax. Partly as a result, the energy sector has shrunk from 16% of the S&P 500 in 2008 to 5% today. As $20 trillion is poised to be invested in ESG funds over the next few decades, including new fossil-fuel-free funds, capital allocation to energy could fall more. However, don’t expect demand for oil to disappear overnight. Says Larry Jeddeloh of the Institutional Strategist: The strongest hydrocarbon companies won’t disappear either.

6. Partly as a result, ESG is expected to keep outperforming, unless oil snaps back sharply.

First is the vogue for quality growth stocks at a time when earnings growth has disappointed. Second, according to Furey Research, ESG performance data is being skewed by the outperformance of technology and the dreadful performance of energy. “Once you ‘sector neutralize’ the results, the advantage of higher ESG scores vanishes. The highest ESG score quartile is made up almost entirely of technology, financial and consumer stocks,” the firm notes.

7. ESG will stay a stock pickers’ dream as investors look for momentum as a way to find promising companies.

“Sustainability momentum—that’s where the magic is going to happen,” says Eddie Perkin, chief equity investment officer at Eaton Vance. Adds Saker Nusseibeh, CEO of Hermes, a unit of
Federated Investors
: “If something comes out that’s bad on ESG, the tendency is to underweight [that company]. One of the ways to make money is to have some negative exposures on our understanding of the ESG metrics, and engage with the company” to ensure ESG improves. Among other things, Hermes keeps statistics on how companies respond to engagements.

8. Corporate reporting will become more specific about climate and other ESG risks.

Companies will supply more scenario modeling in their reports to form “a baseline view of value at risk” under various climate scenarios, says Emily Chew, global head of ESG at Manulife Investment Management. More companies will disclose information according to the Sustainability Accounting Standards Board (SASB) framework, which advises that any ESG data disclosed should be financially material and reported consistently.

9. Expect to hear lots more about stakeholder capitalism.

Proponents of this trend argue that stakeholders, including employees and customers, are just as important to companies as shareholders, as the Business Roundtable said in its revised “Statement on the Purpose of a Corporation” last year. “Stakeholder capitalism is the systems reboot we need…. [It] will make companies more resilient to downside risks,” JUST Capital CEO Martin Whittaker wrote in a post from Davos.

10. Though E is first among equals this year, there will be progress on S and G too.

Goldman Sachs
will require IPO clients to have at least one “diverse” board candidate before the bank takes them public this year, and at least two starting next year. Big index investors will also deploy their votes on ESG. For example, State Street Global Advisors may vote against boards that have “consistently” lagged peers’ ESG ratings.

ESG resolutions received support from nearly 30% of shares voted at annual meetings for U.S. companies during the last proxy season, according to Morningstar. Still, the SEC is looking to tighten rules regarding shareholder proposals. Says Leslie Samuelrich, CEO of Green Century Funds: “It’s a significant attack on shareholders at a time that shareholders are flexing their muscles more.”

11. Lenders care way more about ESG.

Banks will look more closely at ESG risk in making corporate loans. Meanwhile, green bonds—those earmarked for climate and environmental projects—will come into vogue. “With the growth of the green bond market, you’re sitting down with the CFO,” says William Sokol of Van Eck, which runs the VanEck Vectors Green Bond exchange-traded fund (GRNB). Nearly $200 billion of new green bond issues came out in 2019, and more are expected.

“As demand for ESG-friendly assets continues to grow quasi-exponentially, the green bond asset class should also continue to witness some strong inflows for some time,” according to Sustainable Market Strategies. Adds MSCI: “Financiers [will] get creative with ways to bind ESG criteria to their terms of capital, introducing a plethora of corporate borrowers into the wide world of ESG.”

12. Flows will keep surging.

Last year, flows into U.S. sustainable funds more than tripled, marking the fourth year of record flows, according to Morningstar. Talking about sustainability “is a way to build better relationships with clients. And it’s material to returns,” says Catherine Banat, managing director of responsible investing at RBC Global Asset Management. One beneficiary will be impact investing strategies—where people seek specific outcomes from their portfolios—many of which are aligned with the U.N. Sustainable Development Goals.

In 2019, according to the Global Impact Investing Network, assets in this market totaled around $500 billion, based on surveys with 1,300 impact investors. That will happen in mutual funds too: According to Morningstar, the largest impact funds include the $4.8 billion
TIAA-CREF Social Choice Bond
(TSBBX), the $2.4 billion
Community Reinvestment Act Qualified Investment
(CRAIX), the $1.2 billion
Domini Impact International Equity
(DOMIX), and the $1.2 billion
AB Sustainable Global Thematic
(ALTFX).

13. Expect more hiring in the sustainability industry—particularly of people who are great at building computer models and handling large data sets, and who are thick-skinned when dealing with corporate executives and officers. “There’s a global hiring war in ESG right now,” says Manulife’s Chew.

Write to Leslie P. Norton at [email protected]