ESG ETFs – Ethics

Part 2 – Using Ethics-Based Investing for Thematic Socially Responsible ETFs

In Part 1 of a two-part series, we reviewed ETFs based on use sustainability indexing. In Part 2 of the two-part series, we take a look at Ethics-based ETFs. This has been edited from the original article by James Osborn, Founder, Principal of Envest Asset Management, LLC in Investopedia.

 

A popular and growing method to practice ESG and SRI is through ethical investing. This is the practice of an investor actively eliminating ETFs based on ethics, which is highly individualized. An investor may want to focus investments based on environment, health, human rights, etc. But be vigilant when selecting ESG ethics-based ETFs. They tend to have higher expense ratios; however, some ETFs offer reduced fees until a specified sunset date. They can concentrate an investor’s portfolio into an industry or company. The name of an ethics-based ETF may be deceiving. For example, iShare MSCI ACWI Low Carbon Target ETF (CRBN) holds positions in Valero Energy (VLO) and Phillips 66 (PSX), and iShares MSCI USA ESG Select ETF (SUSA) holds positions in Conoco Phillips (COP) and Marathon Oil (MRO). This may give an SRI investor pause.

 

As ESG and SRI increase there are more options for providing ethics-based ETFs. Most recently BlackRock released ESML, which is a small cap, gun free SRI ETF. With short operating history, it remains to be seen how it will perform over time, but this shows that investors’ continued demand for SRI products continues to grow. Here are our top ethics-based ETFs. Figures are based on June 25, 2018.

Large Blend –Exclusions: Tobacco, Alcohol, Gambling

Name: iShares MSCI KLD 400 Social ETF

Ticker: DSI

AUM: $1.1 billion

Expense Ratio: 0.25%

Description: This ETF tracks the MSCI KLD 400 Social Index. This is composed of U.S. companies that have positive ESG programs as identified by the MSCI. MSCI tends to exclude from its index companies that are involved in tobacco, weapons, firearms, alcohol, gambling, and nuclear power.

Likes: Sustainability mandate; liquidity; long track record; distinct voting guidelines that include social or environmental responsibility, and advancement of good corporate governance.

Dislikes: Higher cost; fee waiver expires in April 2020 adding 0.25% to the current expense ratio; controversial holdings against SRI; third-party delegation of voting rights to Institutional Shareholder Services.

 

Invests in Fossil Fuel Free and Low-Carbon Companies

Name: SPDR S&P 500 Fossil Fuel Reserves Free ETF

Ticker: SPYX

AUM: $286.3 million

Expense Ratio: 0.20%

Description: SPYX tracks the performance of fossil-free companies within the S&P 500 Index. Fossil-free is defined as reserves that are recoverable sources of crude oil, natural gas, and thermal coal. The definition does not include metallurgical or coking coal.

Likes: Sustainability mandate; fossil free; strong corporate governance via discussions related to sustainability-related risks and increased direct communication between board members and shareholders.

Dislikes: Higher cost; short track record; fee waiver expires in October 2018 adding 0.05% to the current expense ratio; controversial holdings against SRI; voting control remains with State Street who votes based on their guidelines.

 

Invests in Companies With High Diversity/Inclusion

Name: SPDR SSGA Gender Diversity ETF

Ticker: SHE

AUM: $329.8 million

Expense Ratio: 0.20%

Description: SHE provides exposure to large cap U.S. companies that show greater gender diversity within senior management. SHE identifies gender diversity using State Street Global Advisors’s (“SSGA’s”) in-house gender diversity index.

Likes: Sustainability mandate; higher liquidity; diversity and inclusion; strong corporate governance via discussions related to sustainability-related risks and increased direct communication between board members and shareholders.

Dislikes: Higher cost; short track record; controversial holdings against SRI; voting control remains with State Street who votes based on their guidelines; uses in-house gender diversity index.

 

Invests in Clean Energy Companies

Name: iShares Global Clean Energy ETF

Ticker: ICLN

AUM: $172.6 million

Expense Ratio: 0.48%

Description: Fund tracks the S&P Global Clean Energy Index. It focuses on approximately 30 businesses that are considered the most liquid securities of global clean energy businesses.

Likes: Sustainability mandate; longer track record; global clean energy diversification; strong corporate governance for voting with expectations that portfolio company will report on and will deal effectively with social, ethical and environmental aspects of its business.

Dislikes: Higher cost; lower liquidity; lacks broad diversification; voting control remains with Blackrock who votes based on their guidelines.

 

Invests in Environmentally-Conscious Companies

Name: VanEck Vectors Environmental Services ETF

Ticker: EVX

AUM: $22.6 million

Expense Ratio: 0.55%

Description: EVX tracks the NYSE Arca Environmental Services Index. Investments include businesses in the environmental services industry domestically or globally. Generally, these companies are involved in waste disposal, removal, or storage.

Likes: Sustainability mandate; longer track record; investments include waste reduction companies; case-by-case voting on corporate and social policy issues.

Dislikes: Higher cost; lower liquidity; lacks broad diversification; voting remains with VanEck who defaults its voting policy to Glass Lewis proxy guidelines.

 

Invests in Water-Conscious Companies

Name: Invesco S&P Global Water Index ETF

Ticker: CGW

AUM: $577.8 million

Expense Ratio: 0.61%

Description: The fund tracks the S&P Global Water Index. CGW is made up of U.S. and global water-related businesses that include utilities, infrastructure, and equipment.

Likes: Sustainability mandate; longer track record; higher liquidity; global water diversification; case-by-case voting on corporate and social policy issues.

Dislikes: Higher cost; lacks broad diversification; voting control remains with Invesco who votes based on their guidelines and may default to management discretion.

 

Invests in Emerging Markets

Name: iShares MSCI EM ESG Optimized ETF

Ticker: ESGE

AUM: $323.6 million

Expense Ratio: 0.25%

Description: ESGE tracks the MSCI Emerging Markets Index. This is made up of large- and mid-cap emerging market equities that have positive environmental, social and governance characteristics as identified.

Likes: Sustainability mandate; higher liquidity; emerging market investments; distinct voting guidelines that include socially or environmentally responsibility, and advancement of good corporate governance.

Dislikes: Higher cost; short track record; controversial holdings against SRI; third-party delegation of voting rights to Institutional Shareholder Services.

 

Find The Right Investment That Fits Your Needs

As there is no shortage of SRI ETFs, the bigger issue is finding appropriate SRI ETFs that meet an investor’s ethics. Many SRI ETFs invest in similar businesses making track record, fees, and shareholder advocacy voting policies the differentiating factors. An investor should see how these fit their investment style and portfolio; however, ethical investing is much more personal. An investor should pay particular attention to the holdings in an SRI ETF. On the surface, SRI ETFs shouldn’t cause an investor any ethical issues, but with an ETF invested in a large diversified portfolio of companies, an investor may find that some of the holdings may go against their personal ethics.

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