2023 will be a make-or-break year for Values-based investing.
A brief timeline of the last few years can help illustrate this, but before I dive in, a quick note on definitions.
I use “Values-based investing” to denote investors looking to align their investments with their values
I use “ESG” to denote investment analysis that considers environmental, social, and governance factors to improve risk-adjusted returns.
The ESG and Values-Based Investing timeline, as I've lived through it
Prior to 2019, “Socially Responsible Investing” was the term of choice, and was a niche offering. The mainstream investor was just warming up to the idea that environmental, social, and governance factors might have some relation to financial performance.
2019-2020: “ESG” investing explodes in popularity as evidence builds that environmental, social, and governance factors were linked to Financial Performance. Fund managers see the opportunity to ride the wave and launch new ESG-labeled products. Most financial advisors weren’t hearing anything from their clients, but some brave souls saw ESG as a differentiator that would grow in the future. ESG solutions were expensive and custom, designed for an advisor serving a couple ad-hoc client requests. The COVID pandemic brought new attention to worker treatment, racial justice, and climate change, and ESG funds were outperforming. The stage was set for an explosion.
2021: Year 2 of the Pandemic brought forth mass adoption of ESG. ESG fund flows were seeing unprecedented growth. Financial advisors wanted to get ahead of the curve, and many purchased ESG data and tools to meet the new trend, with a few passionate clients acting as pilots for a potential new paradigm. Anecdotally, I found that 10-20% of advisors that I spoke with at industry conferences had at least two clients who asked unprompted questions about ESG or values-based investing in their portfolios and more advisors were offering customized solutions.
2022: A bit of a speed bump. ESG sees push back from regulators and political groups. People begin to realize that ESG is not one-size-fits-all. Terminology begins to change as advisors realize that what investors are often looking for is values-alignment more so than ESG analysis. Yet amid the turmoil, the silver lining is the adage that “All press is good press”. Anecdotally, I found that 60-80% of Advisors (up from 10-20% in past years) were getting questions about ESG and Values-Based Investing. When clients see “ESG” in the front page of the NYTimes or Wall Street Journal, they ask their advisor about what it means. Advisors needed to become fluent in the language, and serve their clients values while overcoming misconceptions.
Looking ahead to 2023
We will learn whether the regulatory and political pushback of 2022 was a small speed bump or a much larger hurdle. I’m very optimistic that 2022 was much needed for the industry to achieve sustained growth, and that 2023 will see major adoption of quality and personalized values-based investing solutions. Specifically, I believe that this will be the year of clarity, building scalable solutions, and Values-Based Investing becoming table stakes for all advisors.
1. Increased clarity will come to ESG and Values-Based Investing
Clarity will come from increases in global regulations for ESG investments and company actions. New rules coming from the SEC and the EU will bring more transparency to performance and intentionality.
I think thought leadership has a large role to play as well in demystifying what investors mean when they say they want to invest with their values. Most importantly, the industry will need to hammer home the distinction between ESG investing for a financial risk-adjusted returns vs. values-based for aligning client values with their portfolios.
2. Values-based investing becomes table stakes for all
Values-based investing was introduced to the mainstream in 2022 through front-page news articles and interaction with these concepts in their daily life. Investors will become more passionate and sophisticated around ESG and Values-Based investing, and surface-level solutions + understanding may no longer cut it.
3. Scalable solutions for ESG investing will grow
While some advisors have dedicated their whole practice to values-based investing, most are providing reactionary solutions to accommodate a small group of client requests. These advisors spend unsustainable amounts of time researching individual solutions, without building scalable processes.
However, if values-based investing does become table stakes, advisors that don’t build scalable solutions will see that there is too much demand for personalization to meet the needs of all their clients, and risk losing relationships to those that can.