U.S. Markets

'Sustainable' funds lag behind booming ETFs

NEW YORK (Reuters) - The boom in exchange-traded funds is leaving so-called sustainable investing behind.

There are just 48 exchange-traded funds that invest based on environmental, social and governance factors, which are collectively known as ESG, according to data from research firm Morningstar.

Those funds hold a total of $5.7 billion in assets - roughly a third of the $15.4 billion invested in the Parnassus Core Equity fund, the largest actively-managed, ESG-focused mutual fund.

The relatively small total of assets invested in sustainable ETFs comes at a time when ETFs overall are rapidly expanding. Investors pulled $264.5 billion out of U.S. actively-managed equity mutual funds in 2016, while pumping a record $282 billion into exchange-traded funds, according to data from Morningstar and FactSet.

“I do think that ESG will be a growth industry for fund providers eventually, but it will take time for assets to move into these products,” said Todd Rosenbluth, director of fund research at New York-based CFRA.

“Investors in ESG products tend to be more patient and care less about performance than investors in traditionally-managed products, so there might not be the same push to pull assets when a product has underperformed.”

ESG-focused funds have been one of the few bright spots for the actively-managed fund industry at a time when lower-cost ETFs and passive index funds are drawing assets, in large part since sustainable strategies often require more research and stock selection that is not easily replicated in an index.

BlackRock Inc, the largest ETF issuer through its iShares brand, has been expanding its number of ESG funds. The firm launched two ESG-focused bond ETFs last month, increasing its lineup of ESG funds to 10 overall. “ESG is very much about risk management,” said Martin Small, U.S. Head of iShares at BlackRock, in an interview with Reuters. “ESG is not going to avoid all extreme risks ... It does reduce the range of those risks materially.”

Financial advisors who focus on ESG investing say that they expect that index providers will create more tailored products, such as the SPDR SSGA Gender Diversity ETF and the iShares MSCI ACWI Low Carbon Target ETF, that will draw more investors out of actively-managed funds.

“The whole investment industry has been sliced into micro-indexes, and you will see the same thing happen in the ESG field over time,” said Marlo Stil, an advisor at Las-Vegas based The Wealth Consulting Group.

Reporting by David Randall and Trevor Hunnicutt, editing by G Crosse