The exploding popularity of environmental, social, and governance funds is prompting the federal Securities and Exchange Commission to take stricter measures on how investment managers brand their funds.

A total of 149 ESG mutual funds and exchange-traded funds launched in the U.S. last year—about 22% of all ESG fund launches. At this rate, ESG-mandated funds are on track to represent 50% of all professionally managed assets globally by 2024, according to a Deloitte report.

It is perhaps no surprise to see the proliferation of “greenwashing” as fund managers falsely claim they are integrating ESG principles. This is an important topic for communities such as Spokane, where city leadership implemented a renewed Sustainability Action Plan in 2021 in response to its citizen values.

There are several recent media stories that reveal rebranding fund names without integrating ESG metrics has been lucrative to large-fund managers in the short term.

One large, well-known financial company saw consistent fund outflows until it rebranded its funds with the word “sustainable” in 2016. Since then, the fund has brought in more than $1.5 billion in assets. Similarly, another company saw its assets under management increase by more than 90% after it rebranded its name. More recently, Goldman Sachs, Deutsche Bank, and HSBC Bank all have made headlines as regulators investigate their ESG practices.

Despite increasing regulatory scrutiny, the ESG industry has evolved tremendously over the last two decades, creating a positive development for investors, fund managers, and the global community. What was once a simple exclusionary process in which investors divested certain “sin” stocks has now turned into a more thoughtful approach to positive screening and integration methods.

These newer methods have the benefit of being better equipped to produce investor returns similar to traditional methods, while also influencing companies to take better measures in reducing their environmental footprint and improving their social and governance structures. Over the years, we’ve seen improved corporate responsibility across various sustainable factors, including increased worker safety, better executive and governance oversight, and reduced carbon footprint efforts and innovation.

In short, the evolution of ESG allows investors to practice values-based investing without sacrificing long-term returns.

The evolution of ESG is expected to continue and offer investors more opportunities. While most ESG assets are within the public equity space, private fund managers are a rising force.

According to the United Nations-supported network Principles for Responsible Investment, the number of private equity and venture capital firms that are PRI signatories has more than quadrupled over the last five years.

The private equity model has obvious advantages over the public space in that holding a significant ownership stake allows PRI signatories to better control a company’s long-term strategic initiatives. In the public space, individual investors’ small ownership amount limits them to shareholder activism or engagement. 

These methods are effective, but there are certainly more obstacles to achieving end results.

The combined efforts of regulators, investors, and public and private companies will provide powerful tailwinds for future ESG efforts and generally should improve the investment landscape. The rising demand for ESG options has pushed regulators to require more comparable data across the globe. These changes will make it easier for investors to analyze and assess a company’s risks in the short term, but more importantly, it will slowly create tectonic shifts in how businesses operate and drive long-term value creation.

The rising ESG demand also has made it clear that for companies to thrive, they will need to drive sustainable value creation by making foundational decisions in business operations over the long term. The ultimate benefit may be that we might reach a point in which we can reduce the possibility of climate-related crises, while simultaneously improving the quality of lives around the globe.

Krystal Daibes Higgins, a chartered financial analyst, is vice president of equity research with Ferguson Wellman Capital Management.