Low Carbon ETFs: Opportunities For Everybody

This is part I of our analysis of low carbon ETF investing. In this feature, Emma Cusworth examines how insitutional investors are developing and investing in ESG-friendly strategies, and are opening the door for retail investors to follow suit.

Look out for part II this week, which will challenge the notion that investing in an altruistic fashion means missing out on returns.

Large institutional investors are using their might to create opportunities for investors of all kinds to get involved in the low carbon space, even via an exchange traded fund, as these vehicles gather assets and momentum.

Until recently, low carbon ETFs have failed to gather momentum. Global assets across the five existing low carbon ETFs total only $507 million, according to data from ETFGI. Europe, where only two of these ETFs are listed, claims just 14 percent of low carbon global assets, which totals a meagre $73 million.

The oldest of the two European offerings, the Low Carbon 100 Europe Theam Easy UCITS ETF, which dates back to October 2008, accounts for the vast bulk of those assets.

Adding Credibility To Niche Area

The backing of large-scale investors is likely to add credibility to a space that has so far struggled to get off the ground. The low AUM in low carbon ETFs so far is largely down to it still being a relatively new strategy, said Thomas Kuh, executive director of ESG indexes at MSCI.

“It is still early days for investors to manage climate risk and carbon asset risk,” he said.

Over the last year, however, momentum has been picking up. MSCI has gathered around $3 billion in low carbon strategies in less than a year, and more than $300 million is in low carbon ETFs in Europe and in the U.S., according to Kuh.

“The question for institutions keen to encourage others to follow in their footsteps is how to build a market for a strategy that is relatively new,” according to Kuh. “Developing ETFs is one answer to that and we will continue to see more of this kind of activity.”

The focus on carbon emissions has increased markedly in recent years, adding to the risks for those invested in carbon-intensive businesses. Political action on climate change – such as the G7 nations’ agreement in June to end the use of fossil fuels over the next 85 years – and advances in alternative energy technology will all have “implications for the future growth and profitability of companies dependent on fossil fuel extraction and use”, said Vicki Bakhshi, head of GSI, BMO Global Asset Management (EMEA).

Larger Investors Pave The Way To Low Carbon

The future looks bright as large institutions on both sides of the Atlantic leverage their resources and scale to open doors for investors further down the tree by working with index and ETF providers to create indexes and products that effectively implement their low carbon strategies.

According to Kuh: “Asset owners who have a strong conviction about a particular ESG strategy want to use their assets and conviction to leverage opportunities for other investors to follow them in the market.”

Test It First With Pension Funds

In Europe, the large French and Swedish pensions funds, Fonds de Reserve Pour Les Retraites (FRR) and AP4, worked closely with MSCI and Amundi in 2014 to devise the MSCI World Low Carbon Leaders index, which aims for a 50 percent reduction in the level of carbon emissions versus its parent indexes, but with limited tracking error and similar geographic weightings.

Anne-Marie Jourdan, chief legal officer at the FRR, told ETF.com that the pension fund has since invested around €1 billion in a mandate tracking the index. In a statement, the FRR said similar types of investment would follow in 2015 and 2016 “in significant amounts”.

Amundi subsequently launched its MSCI World Low Carbon UCIST ETF in May this year, making the strategy universally available.

In the U.S., the U.N. Joint Staff Pension Fund went a step further by working with iShares and State Street to develop two new ETFs tracking the MSCI ACWI Low Carbon Target index last year and providing initial funding for both.

Good Growth And Performance

These two ETFs have since enjoyed considerable growth. By the end of June the SPDR MSCI ACWI Low Carbon Target ETF (LOWC) had over $92 million in assets, up from $22 million in December, while the iShares MSCI ACWI Low Carbon Target ETF (CRBN) had increased from $143 million a few days after launch in December to around $214 million on 30 June.

Performance wise, these two ETFs also enjoyed good returns. For the year to the end of June, SPDR’s LOWC ETF was up 3.32 percent and iShares’ CRBN ETF was up 3.27 percent, compared to 3.13 percent for the MSCI ACWI Low Carbon Target index.