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Clarity Through Classification: ESG Investing and ETFs

A Q&A with the head of Americas iShares on how investors can build sustainability into their investment goals.

Sustainable investing has rapidly become integral to how investors build portfolios. Chris Dieterich and Armando Senra, head of iShares Americas, discuss what’s behind the transition and why ESG ETFs, which focus on environmental, social, and governance insights, are at the forefront of the sustainability charge.

Q: BlackRock CEO Larry Fink recently announced actions to make sustainability the new standard for investing. What role is iShares playing?

Armando Senra: A key takeaway from Larry’s letter to CEOs is investors are recognizing that ESG considerations matter to asset prices and portfolio performance.

We see significant reallocations of capital as investors rely on ESG insights—for example carbon emissions, labor standards, or gender composition of corporate boards—to help drive long-term returns.

iShares has the largest range of sustainable ETFs.1 We’re committed to providing access to all investors and plan to roughly double our global iShares Sustainable ETFs over the next few years. More immediately, we’re developing a framework for categorizing the ESG strategies in order to add more clarity for investors.

Q: Why is a thoughtful ESG framework useful to investors—do you see it as an extension of education?

Armando: There’s a growing number of sustainable options and investors need a clear way to navigate the choices. iShares is building an ESG framework to help investors understand the various approaches. We want investors to understand that whichever one they choose, it’s simple to add sustainability into portfolios.

Take ESG Advanced ETFs, which prioritize higher-rated ESG companies while extensively screening out controversial industries such as fossil fuels and civilian firearms.

ESG Aware ETFs balance the pursuit of broad market risk and return while incorporating ESG insights.

As we launch new ETFs, being able to clearly differentiate between them becomes more important.

Q: 2019 was a breakout year for flows into sustainable funds. What’s changing?

Armando: It’s true, investors embraced sustainable ETFs in unprecedented numbers last year, including $12 billion in flows for iShares globally.2 In the U.S., more than $20 billion flowed into all sustainable open-end and exchange traded funds—that’s nearly four times the previous annual record sent in 2018.3

Recent growth is about investors placing ESG ETFs at the core of their portfolios. This wasn’t possible until recently, but now we have ESG ETFs that can be used as building blocks for asset allocation.

In the past, more niche, sector-focused products like solar and clean energy defined the sustainable ETF landscape. Today, institutional investors and financial advisors are increasingly taking a “whole portfolio” approach to investing. Asset allocators need building blocks and index ETFs to help them realize their desired outcomes efficiently.

Q: Most new assets in ESG are coming via ETFs. Why?

Armando: ETFs that seek to track ESG indexes provide investors with a rules-based and transparent approach. This is a benefit to investors who have been challenged in this space to access a broader set of solutions and the ability to understand what they own and how they fit into portfolios. And ESG ETFs, like with all ETFs, come with the added flexibility and simplicity of on-exchange trading and competitive fees.

A trend we see with institutional investors is that they are shifting policy benchmarks—the reference points off which performance is measured—from traditional, market-cap weighted indexes to ESG indexes. As a result, some of these investors are choosing to move out of their market-cap weighted exposure and in to ESG ETFs. This is starting to have a meaningful impact on the flows into this category.

Q: What’s most exciting to you in this space as we look into the future?

Armando: Three things.

First is standardization around ESG information. Common guidelines are taking root and companies have greater incentives to self-disclose more of this data. The potential knock-on effects of enhanced ESG reporting will include more indexes, more ETFs, and more transparency, which will help investors make informed decisions about how they want to allocate capital. It’s a virtuous cycle.

Next, technologies that can help provide access to more and differentiated data and analytics are developing quickly. This will help investors build sustainability into portfolios.

Last, more investors are gaining access to ESG. This includes an expansion of asset allocation building blocks, as well as innovative thematic solutions focused on specific E, S and G issues.

1 Morningstar (as of Dec. 31, 2019); iShares offered 14 sustainable ETFs as of the end of 2019
2 BlackRock (as of January 2020)
3 Morningstar, estimated fund annual flows as of January 2020

Originally Posted on February 11, 2020 – Clarity Through Classification: ESG Investing and ETFs

Carefully consider the Funds’ investment objectives, risk factors, and charges and expenses before investing. This and other information can be found in the Funds’ prospectuses or, if available, the summary prospectuses, which may be obtained by visiting the iShares Fund and BlackRock Fund prospectus pages. Read the prospectus carefully before investing.

Investing involves risk, including possible loss of principal.

A fund’s environmental, social and governance (“ESG”) investment strategy limits the types and number of investment opportunities available to the fund and, as a result, the fund may underperform other funds that do not have an ESG focus. A fund’s ESG investment strategy may result in the fund investing in securities or industry sectors that underperform the market as a whole or underperform other funds screened for ESG standards.

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