The Future of ESG is Customized, Personalized, and Values-Driven

2020 was the year that accelerated the urgent need for stakeholder-driven capitalism and ESG-driven investing. At the beginning of the year, there was a heightened focus on the “E” of ESG, with climate change at the forefront of the 2020 World Economic Forum as widespread fires decimated Australia’s bushland. Come spring and summer, the rise of the COVID-19 pandemic coupled with the brutal killing of George Floyd prompted a nationwide reckoning with deep-rooted systemic inequity across all aspects of our society, bringing the “S” of ESG to the fore. As we look to advance progress on important issues impacting workers, customers, our communities, and the environment, investors increasingly recognize how aligning values with investments can drive impactful change.

As investors continued to take action around these issues, asset flows into U.S. sustainable open-end and exchange traded funds reached a record $51.1 billion in 2020, according to Morningstar, up from $21.4 billion in 2019 and nearly 10 times higher than 2018 flows of $5.4 billion. Still, last year’s total represented just 24% of overall flows into U.S. stock and bond funds for the year, demonstrating a significant runway for more investment opportunities. 

We Customize Everything, Why Not Our Portfolios? 

Most individuals see investing as a personal process for reaching desired financial outcomes, like creating a more comfortable retirement, paying for children’s college, or buying a first home. Today, more investors recognize that investing can serve a dual purpose – to both reach financial goals and to perpetuate core values by supporting companies doing right by all shareholders.

While investors often receive portfolio customization for the sake of reaching desired financial outcomes, portfolio options to perpetuate values still often come in the form of “one-size-fits-all” ESG approaches with few opportunities for personalization. While ESG ETFs and mutual funds have helped to democratize ESG without investment minimums, these packaged products can leave investors less able to tailor options based on the issues that they care about most.

We know from our robust survey research – polling over 110,000 Americans since 2015 to identify what matters most when it comes to just business behavior – that we need to advance a myriad of issues to create a more equitable economy, from increasing worker wages and benefits, to advancing racial equity, to reducing harmful pollution and GHG emissions. Overall we’ve identified 19 key issues and more than 300 data points that comprise a holistic model for tracking, analyzing, and ranking companies on how they are advancing a more stakeholder-driven form of capitalism today. And while our research shows how much Americans align on what companies should prioritize when it comes to just business behavior, the stakeholder performance data we collect on companies also provides a unique opportunity to add more granular personalization to individuals’ investment portfolios. If you care about advancing racial equity, for example, JUST has a data set demonstrating what companies are leading on that issue. If you care about reducing climate change impacts, we can parse out which companies lead the way, and which ones lag behind. The same applies to issues around data privacy and security, human rights, community development, and more.

So, how can investors curate a portfolio with this level of customization to direct their capital toward companies advancing the issues they care about most? With direct indexing or a separately managed account (SMA), an investor can, for example, exclude small arms manufacturing or tobacco companies or overweight companies that prioritize curbing climate change or advancing racial equity. 

Direct indexing and SMAs are similar to ETFs in that investors pool money into a specific strategy, but rather than holding a share of a rigid portfolio, investors own the individual securities and therefore have the ability to customize the underlying holdings and often maximize tax benefits. As of today, direct indexing and SMAs in some cases are only available to high-net-worth individuals or institutions, but as technology catches up with capabilities for fractional shares and commission-free trading, we are likely to see an increase in demand. In an Ignites article, Neil Bathon, the founder of FUSE Research Network, predicts “that direct indexing assets will grow by 50% in 2021, to approximately $300 billion. With firms like BlackRock, Charles Schwab, Goldman Sachs and Morgan Stanley acquiring fintech capabilities in 2020, the groundwork is being laid for a significant and sustained increase in the asset growth rate beyond this year.” Furthermore, Schwab announced that it will be launching a thematic basket trading platform within their brokerage offering, allowing for investors to trade and invest in thematic portfolios prioritizing green energy companies or companies actively tackling and advancing racial justice. 

Credit: Canvas – Custom Indexing: The Next Evolution of Index Investing

At JUST Capital, our Investor Products team is actively forming partnerships around these themes to support our partners in creating customized portfolios for their clients. We currently have partnerships with numerous asset managers that leverage our differentiated ESG datasets in their portfolios, and last year we launched four separately managed accounts with USA Financial, as well as with an Argus Research SMA. In January of this year, we partnered to launch a Racial Equity Direct Index Fund with Natixis. This week, we are announcing a partnership with Seeds, a fintech platform disrupting the sustainable investment space by empowering financial advisors to personalize values-aligned investment portfolios based on each investor’s specific “Investor Profile” and values priorities. Seeds is leveraging JUST’s data in their client portal experience to report on impact measurement related to specific issues such as pollution, human rights, and workforce inclusion that are most relevant to each individual investor. Scores will show how portfolios perform compared with the universe of investable companies, adding context for investors to better understand their relative impact.

We expect this trend will continue as investors demand further personalization. At JUST, we are eager to partner around our datasets and index products to launch more customizable and impactful fund strategies that drive assets toward more JUST companies in a personal way. Please reach out to me at cmahoney@justcapital.com if you are interested in a potential partnership.