ESG Funds Struggle in Supercharged Political Climate

The politics of environmental, social and governance investing is slowly suffocating the ESG ETF business, but don’t assume this is the end of this often-misunderstood investment category.

According to Bloomberg Intelligence, at least 20 ESG ETFs have shuttered already this year, which represents a quarter of all ETF closures despite composing just 1% of all ETF assets.

The 2024 closure rate is on track to eclipse the 23 ESG ETF closures last year.

The easy analysis is that ESG overplayed its hand by marching too aggressively into the liberal end of the political spectrum, thus triggering boycotts and opposing anti-ESG strategies from the other end of the spectrum.

That’s the “baggage,” according to Bloomberg Intelligence Senior ETF Analyst Eric Balchunas.

That is part of it, but how big is unclear because from its origins under various banners and iterations, including sustainable, socially responsible and impact investing, ESG strategies have always been saddled with two investing no-nos: Higher fees and lower performance.

ESG ETFs Scramble to Stay Afloat

While there will always be loyal followers of ESG investing, the category, at about $100 billion in total ETF assets, remains a niche trying to recruit investors away from their core allocations of dirt-cheap index funds.

Balchunas points to a period about four years ago when “everybody and their mother was launching an ESG fund” as the reason the shelves got so overstocked.

There was hype fueled by an inspired message from BlackRock CEO Larry Fink. There was impressive back-tested performance built on the back of a strong run by technology stocks. And there was survey data showing financial advisors were fully on board.

“There was a moment where ESG fever was real and a point where the coverage was as if it was going to sweep the country,” Balchunas said. “They had planned on $500-to-$600 billion in assets and only $100 billion showed up.”

The missed mark by the ETF industry, according to Balchunas, resulted from a combination of deceptively rosy investor survey data, an over-reliance on the tech-sector for performance, and a realization that the majority of the inflows into ESG ETFs was portfolio models managed by BlackRock.

This won’t likely be the end of the ESG ETF shakeout, but it also isn’t the end of ESG ETFs. The politics, still running hot, will force some name changes that don’t include those letters in that order, and the strong will survive because there is a place for them.

For unlevered performance in the ESG space, there’s the Invesco ESG Nasdaq 100 ETF (QQMG), which charges 20 basis points and is up nearly 40% over the past 12 months. But at less than $41 million it seems investors are not racing to get on board.

Then there’s the $1 billion iShares ESG Advanced MSCI USA ETF (USXF), which charges 10 basis points and is up more than 37% over the past 12 months.

Of the two largest ESG ETFs, Balchunas said the $12.9 billion iShares ESG Aware MSCI USA ETF (ESGU) is mostly pumped up by BlackRock support.

But he describes the $8.6 billion Vanguard ESG U.S. Stock ETF (ESGV) as “organic money.”

“There will always be some hardcore ESG investors,” Balchunas said. “There won’t be any ESG tourists, but ESG might find a place in the thematics space.”