European ESG funds buy up defence and energy stocks

Three years into the Moral Money journey, we’re still very much in growth mode. Today we’re delighted to welcome a new reporter on the team, Kenza Bryan. Kenza was previously a financial reporter for the Sunday Times, where her stories on loan shark abuse won her a nomination for new journalist of the year at the British Press Awards. She then worked as an investigative reporter for Global Witness, probing links between major global banks and deforestation in the Congo Basin and Brazil. She’ll be working alongside Simon at Financial Times HQ in London, and you can reach her at kenza.bryan@ft.com.

In our newsletter today, I have a report on the state of ESG funds in Europe, where sustainable investing enjoys a home-field advantage in terms of regulation. Increasingly, ESG funds are turning to the companies they have long shunned — energy and defence groups — to try to recoup some of their losses this year.

Also today, we consider whether the green whistleblowing trend could be spreading into new sectors. Companies need to be increasingly wary of this as the Securities and Exchange Commission’s bounty programme is eagerly awaiting tips about potential greenwashing. (Patrick Temple-West)

European ESG turns towards defence and energy to staunch outflows

Europe has long been the world’s leader in environmental and socially conscious investing. More than 80 per cent of the assets held in sustainable funds are in Europe, according to Morningstar.

But the action is starting to cool. ESG equity funds in Europe experienced a second quarter of outflows from April to the end of June, according to a report on Friday from Bank of America. Notably, passive ESG equity funds continued to haul in cash in the first quarter, but started to bleed in the second quarter.

The ESG performance problem surely prompted investors to take flight. ESG had been underperforming this year after outperforming over the past 10 years, Bank of America said. That reflects the low exposure of most ESG strategies to the energy and defence sectors, both of which have been surging amid the turmoil sparked by Russia’s invasion of Ukraine.

Now, European ESG funds have been quietly changing their stance towards those controversial industries. Bank of America highlighted their gradual addition of shares in Rheinmetall, the German defence company that makes tanks for Nato, to their holdings. The UK’s BAE Systems and France-based Thales and Airbus are also enjoying new-found favour with ESG funds.

The findings come amid an intense debate this year over whether defence companies might have a place in ESG strategies, if their products may be helping to preserve the security of countries such as Ukraine. Some ESG fund managers, clearly, have decided they do.

In energy, the European ESG funds were buying up Shell, Galp Energy, Repsol and Aker BP, Bank of America said.

Though these businesses do not easily fit into a small carbon footprint, the companies will have to play in Europe’s new eco-friendly marketplace. Banks, increasingly worried about their own exposure to carbon-heavy clients, are likely to push the defence and energy companies to do more to reduce their emissions. New reporting requirements for groups in the EU will force defence and energy companies to shed more light on their emissions and how they plan to trim them.

ESG funds’ new appetite for defence and energy stocks may boost their performance, if the rally in those sectors continues. But it may offer new ammunition to the critics who allege a troubling lack of clarity and consistency around investment criteria in this sector. (Patrick Temple-West)

Green whistleblowing looks set to widen

At the recent Collision conference in Toronto, there was a fascinating nugget on the issue of green whistleblowing. In the past, these tipsters tended to come from within heavily polluting industrial companies. However, Libby Liu, chief executive of the Whistleblower Aid activist group, says that this picture is changing: whistleblowers are coming forward from professional services groups too, including audit, public relations and advertising businesses.

“It takes a village to ruin a planet,” she declared. “It is not just about oil and gas, but consulting companies and financial companies and advertising companies.” While those reports had not made the headlines yet, this could change soon, she warned. “The House [of Representatives] is doing a lot of investigation on all kinds of industries: high-tech, Big Tech, the financial industry and advertising industry. It is anyone involved in creating the problem or covering up the problem [of climate change].”

Her remarks follow signs of growing green pressure on these sectors in recent months. Last month’s prestigious Cannes Lions advertising festival was disrupted when an advertising executive-turned-Greenpeace activist took the stage to return his award, in a protest against the industry’s continuing work for fossil fuel companies.

As Andrew Edgecliffe-Johnson reported this year, the Clean Creatives initiative has been targeting advertising and PR firms that it accuses of “spreading misinformation” on clients’ behalf. Andrew cited research by the influential Brown University academic Robert Brulle, who has called oil company advertising “a dominant strategy to manipulate environmental discourse”, and labelled PR companies “key organisational actor[s] in climate politics”.

Audit firms face scrutiny over their analysis of financially material climate-related risks — notably from Sarasin & Partners’ Natasha Landell-Mills, as we’ve previously reported. And the bubbling unrest among some employees in the consulting sector was made clear last year when 1,100 McKinsey staff signed a letter saying the company’s reputation was imperilled by its “inaction on (or perhaps assistance with)” its clients’ emissions.

We’ve already seen green whistleblowers make serious waves in the financial sector. Tariq Fancy has sparked heated debate with his attack on the ESG agenda at BlackRock, where he was chief investment officer for sustainable investing. After DWS’s former sustainability head Desiree Fixler accused it of misrepresenting its ESG credentials, the German asset manager has faced investigation by both German and US authorities, prompting the resignation of its chief executive.

Whistleblowers from across all business sectors have financial incentives as well as ethical ones. The SEC has a bounty programme (established after the Bernard Madoff scandal) that pays whistleblowers a slice of settlement money that the agency collects in an enforcement case. Former SEC whistleblower officials have told us that, after Fixler’s revelations, every chief sustainability officer is now viewed as a potential whistleblower.

Companies should be keenly aware that potential greenwashing is an enforcement issue at the SEC, and the agency is ready to take quality tips. (Gillian Tett, Patrick Temple-West and Simon Mundy)

Smart watch

• Is water best viewed as a commodity, or as a human right? This new video from the FT’s Rethink channel looks at how water-related securities are increasingly being traded on financial markets, and asks whether this could help drive greater efficiency of supply — or dangerous volatility in prices.