Sustainable Funds See Record-Breaking Year in 2021

ESG funds attracted nearly $70 billion in net flows last year, a 35% increase from 2020.

Sustainable funds in the US broke nearly every previous record in 2021 and attracted a record level of inflows and total assets, according to Morningstar’s annual “Sustainable Funds US Landscape” report.

Sustainable funds attracted nearly $70 billion in net flows in 2021, a 35% increase from the previous year, which at the time was a record in terms of net flows. As a result, assets in sustainable funds totaled a record $357 billion at the end of the year.

“Between fund launches and repurposed funds, an unprecedented number of new sustainable funds came to market,” said the report. The number of sustainable open-end funds and exchange-traded funds available to US investors rose 36% during the year to 534, which was almost twice as many investments available at the end of 2018.

Morningstar said that for a fund to be included in its sustainable funds universe, it must “hold itself out to be a sustainable investment,” and its intent should be apparent from a simple reading of its prospectus.

“The prospectus’ principal investment strategies section should contain enough detail to leave no doubt that ESG [environmental, social, and governance] concerns figure prominently in the investment process,” said Morningstar in its report. “While many funds now consider ESG criteria as one factor in the security-selection process, those included in the sustainable funds universe make their commitment clear and prominent, usually through binding guidelines.”

According to the report, 24 new sustainable funds came to market in 2015, which was a record at the time, and at least 30 funds have been launched each year since. In 2021, the 121 new funds launched easily surpassed the previous record of 71 set in 2020. It also said that among the new funds, 81 are actively managed and 40 are passive, with more than 75% of them being equity funds.

Actively managed funds continue to account for the lion’s share of sustainable funds, with 375 of the 534 funds actively managed as of the end of 2021, representing 70% of the sustainable funds. However, Morningstar also said that investors have disproportionately favored passive funds in recent years, and that low fees and increased investor adoption of model portfolios have increased flows to passive funds. As a result, the market share for active funds has been on the decline, dropping to 60% of sustainable assets as of the end of last year, from 81% three years ago. Of the 534 sustainable funds, 374 are equity funds, 112 are fixed-income funds, and 48 are allocation funds.

In April, BlackRock set a record for the largest exchange-traded fund launch with the debut of its US Carbon Transition Readiness ETF, which netted more than $1 billion on its first day. The fund had $1.6 billion in assets at year-end, nearly three times the next largest launch, which was the BlackRock World ex US Carbon Transition Readiness ETF.

Morningstar said 26 funds changed their investment strategies to become sustainable funds in 2021, which was the same number that did so in 2020. The total number of repurposed funds in the current sustainable funds universe is 92, or approximately 17% of the overall group. The report said the most common candidates for retooling tend to be actively managed funds experiencing chronic outflows.

“As investor demand for sustainable funds continues to grow, converting these active funds into sustainable offerings, rather than launching new funds, can be an attractive strategy for some asset managers,” Morningstar said.

The report also found that the collective influence of proxy voting has grown as investors put more money into sustainable funds. It said sustainable funds managed by BlackRock, Vanguard, State Street, and Dimensional supported an average of 60% of the key ESG resolutions on which they voted in 2021. 

“Overall support for key ESG resolutions among the largest sustainable funds was largely positive in 2021,” said the report. “Across the 12 sustainable funds with more than $3 billion in assets, average support for the key resolutions was 72%, and the proportion was even higher among funds managing at least $1 billion in assets.”

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