The intersection of finance and ethical issues has created a growing demand for Socially Responsible Investing (SRI) and Environmental, Social and Governance (ESG) investing guidelines. More and more advisors are looking to offer these investment solutions to meet the needs of their clients—who seek to be more “green” in how they invest. In turn, many asset managers are looking to enter the space through either product development or firm acquisition. At BNY Mellon, we understand the growth of these products given that our broker-dealer and asset management clients continually look to us for unique insights.
The first insight we share with clients to help them understand the growth of this space, is to clearly define the inclusionary/exclusionary properties between SRI and ESG. Although often combined under a single “green investing” umbrella, SRI and ESG investing have distinct differences. For example, SRI standards employ negative screens that prohibit investing in certain companies deemed to be socially offensive, depending on specific criteria. We often classify these types of funds as "exclusionary." For example, you would find the following language within the principal investment strategies of an SRI defined fund: The Fund will not invest in securities issued by any company that is involved in the production or wholesale distribution of alcohol, tobacco, or gambling equipment/enterprises.
On the other hand, ESG investing encompasses more of a universal and holistic approach; the process is more “inclusionary.” These funds focus more on companies that appeal to the socially-minded investor. For example you would find the following language within the principal investment strategies of an ESG defined fund: In selecting investments for the Fund, decisions are guided by a framework for considering environmental, social and governance (“ESG”) factors.
For the purposes of an analysis to help further inform our clients, we focused more on ESG fund trends as it is a relatively newer concept and also the faster growing segment. To put these groups in context, ESG represents around 1% of total mutual fund assets, whereas the broader SRI represents roughly 1.2%. Together, these two groups represent just 2.2% of mutual fund assets growing at roughly 8%. In Q1 2019, we saw ESG mutual funds record a 2-year compound annual growth rate (CAGR) of 13.6%, compared to SRI funds at 3.4%--while overall mutual funds saw a 2-year CAGR at 3%. To better understand ESG growth rates, let’s look at the breakout of assets by asset class and investment style.
U.S. Equity accounted for 51% of all ESG funds. International and global equities accounted for 32% and taxable fixed income 15%. Given the significant amount of U.S. equities in this group, it is no surprise that ESG has seen only modest growth of late. This falls in line with the ongoing trends of U.S. equity mutual funds posting relatively low growth rates (3.5%) while international/global equity and taxable fixed income products saw CAGRs of 36% and 21%, respectively. Below are percentages of total assets and corresponding CAGRs for the top ten investment styles within these asset classes.
A unique aspect of the Intermediary Analytics data set is our ability to drill down into various advisor programs. One of the most significant trends we have seen over the last five years has been the growth of the fee-based business at the expense of the commission-based business. Even in tremendous periods of mutual fund growth as we saw in 2016 and 2017, commission-based programs saw consistent outflows. When looking at ESG assets by advisor type, we notice a few very important trends emerge.
In Q1 2019, 74% of ESG assets were on fee-based programs, up from 70% in Q1 2017. Commission-based assets fell from 30% to 26%. When you start to drill into the specific fee-based program types, you see some separation in terms of growth. Rep-as-PM4 assets increased from 21% of ESG assets in 2017 to 28% in Q1 2019. Rep-as-Advisor and Firm Discretionary programs stayed relatively flat during that timeframe.
When looking at growth rates it is not surprising that Rep-as-PM leads with a 2-year CAGR of 37%, compared to firm discretionary programs at 18%, Rep-as-Advisor6 at 13%, and commission-based at 9%. In contrast to other fee based programs, Rep-as-PM advisors have full discretion to make changes and adjustments to asset allocations and investment managers without first obtaining the express authorization of their clients.
A common feature of Rep-as-PM programs is a scalable technology infrastructure that offers advisors flexibility in creating portfolios and performing other common tasks. Firm Discretionary programs, which include Unified Managed Accounts7 or Home Office Models8, limit advisors to funds on firm-approved or recommended lists. We have seen these trends often with newer products and strategies as these advisors were the early adopters of ETFs as well as liquid alternative mutual funds.
While SRI/ESG growth has been impressive—at roughly 2.2% of mutual funds’ assets—overall penetration into asset allocation strategies is still very small. As such, targeting Rep-as-PM advisors effectively can optimize any sort of SRI/ESG sales campaign. The open architecture Rep-as-PM advisor space, in particular, offers wholesalers an opportunity to expand their advisor relationships and build new ones. To make the most impact, it is critical to approach advisors with as much knowledge about their investing patterns as possible. Using distribution analytics to understand the drivers behind advisors’ use of SRI/ESG products is an important first step for a successful engagement with financial advisors.
1BNY Mellon Intermediary Analytics data, as of March 31, 2019.
2BNY Mellon Intermediary Analytics data, as of March 31, 2019.
3BNY Mellon Intermediary Analytics data, as of March 31, 2019.
4Rep-as-Portfolio Manager (Rep-as-PM) – Advisors have full discretion over all asset allocation decisions.
5BNY Mellon Intermediary Analytics data, as of March 31, 2019.
6Rep-as-Advisor – Advisors need consent from their clients before any sort of changes to an asset allocation.
7Unified Managed Account (UMA) – Includes multiple types of investments all in a single account. Investments may include mutual funds, stocks, bonds and ETFs. Many UMA programs are restricted to approved or recommended funds determined by the broker dealer.
8Home Office Model programs – Asset allocation strategies set by the broker dealer utilizing an approved or recommended list of funds.
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VP, Director of Research, BNY Mellon Intermediary Analytics
Scott Anderson is Vice President, Research for Intermediary Analytics. Scott is responsible for all research and custom analysis delivered to clients in the form of industry summaries, presentations and special reports.View Profile