[This article originally appeared in our March issue of ETF Report.]
There now exist dozens of ETFs that fall under the broad environmental/social/governance (ESG) rubric, tracking everything from clean energy to gender diversity—even religious values.
Few of these funds, however, have attracted significant assets. Those that have generally opt for a middle-of-the-road approach, blending sustainability with broad market exposure.
Of the seven funds covered here, only one, the Guggenheim Solar ETF (TAN), can truly be considered a narrow sustainability play; the others attempt to offer exposure that will satisfy investors’ consciences without straying too far from the broad market indexes they track.
The clear ESG heavyweight is DSI, which also happens to be one of the oldest sustainable ETFs.
DSI tracks 400 U.S. companies that exhibit positive ESG criteria, as decided by proprietary MSCI rankings.
To select constituents, DSI first screens out companies with a negative environmental or social impact, including alcohol, gambling, tobacco, civilian firearms, military weaponry, adult entertainment, genetically modified organisms and nuclear power businesses. Companies currently embroiled in ESG-related controversies are also nixed.
The rest are ranked according to their ability to manage ESG risks and opportunities.
Though its benchmark excludes some well-known companies like Apple and Exxon-Mobil, DSI still cleaves closely to the composition of the broader U.S. stock market, allowing investors to achieve ESG exposure without going full-on tree-hugger. However, it’s hard to see what long-term performance benefit, if any, DSI’s commitment to ESG offers, since the fund’s five-year return falls within 50 basis points of that of the S&P 500.
With an expense ratio of 0.50%, DSI doesn’t come cheap (though it certainly isn’t an outlier in the space). Still, some newer ETFs offer the same basic idea of sustainable, broad market exposure at a cheaper price.
Like DSI, KLD adopts a socially conscious stance to the U.S. stock market. The two funds even hold many of the same sectors and in the same amounts. The main difference is in KLD’s methodology.
KLD’s index ranks 250 U.S. companies on five factors: their ability to meet environmental challenges; how well firms manage community impact; their records on managing labor and supply chain; product quality and safety record; and governance and ethics practices. Unlike DSI, the only stocks KLD’s benchmark excludes out of hand are tobacco companies.
Interestingly, KLD’s index is tightly yoked to the U.S. stock market: Weights of individual securities are capped at 5%, and sectors can’t deviate more than 3% from the broader MSCI USA Index. However, that hasn’t helped KLD’s performance. Over five years, the ETF has underperformed the S&P 500 by 2 percentage points.
At 119 companies, KLD’s portfolio is significantly smaller than DSI’s, even though KLD holds some names that DSI doesn’t. (KLD also skews toward midcaps.) To differentiate between DSI and KLD, investors should closely study the holdings of each.
CRBN offers global stock exposure with a lower carbon footprint by overweighting companies with low greenhouse gas emissions and low potential emissions from fossil fuel reserves, while also underweighting higher carbon emitters.
At the same time, CRBN’s benchmark imposes strict measures to keep it in line with broad market performance.
For starters, the benchmark tries to track the MSCI ACWI Index to within 0.30% of error. (For context, average ETF tracking error is 0.59%.) In addition, individual constituent weights can’t exceed 20 times their weight in the MSCI ACWI Index, while individual sectors and countries can’t deviate more than 2% (except for the energy sector, where there’s no limit).
That means CRBN’s portfolio will still include many larger companies with comparatively higher carbon emissions.
Although beaten to market by LOWC, CRBN has accrued far more in assets, thanks to $142 million in seed capital from the United Nations Joint Staff Pension Fund. (LOWC received $22 million.)
CRBN charges an expense ratio of 0.20%.
SHE tracks U.S. firms with a high proportion of women in leadership positions. SHE carries an expense ratio of 0.20%.
SHE’s benchmark evaluates the 1,000 largest U.S. companies for the ratio of women to men on their boards of directors and in executive positions (e.g., vice president or managing director and above). The top 10% in each sector make it into the index, so long as each firm has at least one woman on its board, or as CEO or chairperson.
Don’t expect a portfolio run by exclusively female CEOs and executive teams—the corporate world is far from egalitarian—but boardroom gender ratios among SHE’s 183 stocks are better than what you’d find elsewhere. Still, as with other ETFs on this list, SHE doesn’t deviate too far from the broader U.S. market.
Notably, SHE’s index rebalances annually, so it might take several months for efforts to diversify boardrooms to be reflected in the fund’s lineup.
One of the oldest renewable energy funds around, TAN tracks solar-power companies listed in developed markets.
TAN represents every facet of solar power, from photovoltaic to solar thermal, from raw materials to manufacturing to installation. Stocks are weighted in the index by the relative importance of solar power in their business: Companies that derive between one- and two-thirds of their revenue from solar power activities are weighted by half; anything less is eliminated entirely.
TAN’s portfolio includes 19 holdings and skews toward small-caps. Half its holdings are in the U.S., while another 38% are in Hong Kong and China.
TAN has far more assets and volume than its nearest competitor, the VanEck Vectors Solar Energy ETF (KWT). But KWT has a larger portfolio (29 names), and requires its constituents to derive half or more of their revenues from solar power.
With a 0.71% expense ratio, TAN is the most expensive ETF on our list.
Like CRBN, LOWC tracks the MSCI ACWI Low Carbon Target Index. LOWC beat CRBN to market by a few weeks, but CRBN has more than twice the assets and almost 10 times LOWC’s average daily volume.
Portfoliowise, LOWC is essentially the same fund as CRBN, just with some extra names included (1,509, compared with CRBN’s 1,164). LOWC is managed by State Street, whereas CRBN is managed by BlackRock.
SPYX is exactly what it says on the tin: The fund’s benchmark excises companies with fossil fuel reserves from the S&P 500 Index. Fossil fuel reserves are defined as recoverable sources of thermal coal, crude oil and natural gas.
SPYX looks like an awful lot like the SPDR S&P 500 ETF (SPY), just with a few sector tweaks. Whereas energy makes up about 8% of SPY’s portfolio, it only comprises 2% of SPYX’s. Still, SPYX’s performance is almost identical to SPY’s, just with a higher fee—0.20% versus SPY’s 0.09%.