What Does Greenwashing Mean in Sustainable Investing?

Consumers and investors interested in eco-friendly products, including investment funds, should watch out for a practice called “greenwashing.”

What Is Greenwashing?

Greenwashing happens when a company falsely presents itself as environmentally friendly to capitalize on the growing demand for sustainable options.

This tactic often involves exaggerating environmental benefits, hiding harmful practices, or violating principles of environmental, social and governance, or ESG, investing.

Here’s what you need to know about greenwashing and how it affects investors:

— Examples of greenwashing.

— How investors can check up on sustainability claims.

— How ESG regulations and requirements are changing.

— How important is ESG to investors?

— How to know if you’re getting greenwashed as an investor.

Examples of Greenwashing

Cryptocurrency miners have touted their practices as environmentally friendly, but some analysts have pointed out that the process releases significant amounts of carbon dioxide into the atmosphere.

According to a 2022 fact sheet published by the White House, “Crypto assets can require considerable amounts of electricity usage, which can result in greenhouse gas emissions, as well as additional pollution, noise and other local impacts to communities living near mining facilities.”

It adds, “Depending on the energy intensity of the technology and the sources of electricity used, the rapid growth of crypto assets could potentially hinder broader efforts to achieve U.S. climate commitments to reach net-zero carbon pollution.”

Investors who put money into ESG or sustainable funds may not be aware of what they own, and whether there’s some degree of greenwashing.

Peter Krull, partner and director of sustainable investing at Earth Equity Advisors in Asheville, North Carolina, says even some of the biggest ESG funds may have some questionable holdings. “Take the iShares ESG Aware MSCI USA ETF (ticker: ESGU), one of the largest funds in the category,” Krull says. “It’s marketed by BlackRock Inc. (BLK), so it has massive corporate backing. This, in my opinion, is a perfect example of a less-bad fund that an uninformed financial advisor would use, but that a retail investor would dislike.”

Fossil fuel holdings include Exxon Mobil Corp. (XOM), Chevron Corp. (CVX), Valero Energy Corp. (VLO) and Constellation Energy Corp. (CEG). “Other companies that we would question as being ‘sustainable’ in the portfolio include McDonald’s Corp. (MCD), Keurig Dr. Pepper Inc. (KDP), Fox Corp. (FOX), Meta Platforms Inc. (META), Coca-Cola Co. (KO), PepsiCo Inc. (PEP), Visa Inc. (V) and Mastercard Inc. (MA),” Krull adds.

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How Investors Can Check Up on Sustainability Claims

Because sustainability claims are often self-reported, it can be difficult for investors to know how “green” their holdings really are.

For example, although fossil fuel companies have been making strides in the area of clean energy, their focus for the foreseeable future continues to be oil and gas.

“Currently most sustainability claims are voluntary,” said Rebecca Self, a sustainable finance analyst at Topo Finance, headquartered in Seattle, Washington. “Over time, greater regulatory oversight and disclosure requirements are expected to ensure customers are not misled.” Self adds that this is starting to happen in the U.K. and Europe, where new regulations require more stringent metrics for companies touting their green credentials.

In the meantime, does that mean the onus is on retirement investors, whose lives are already busy and who aren’t finance experts, to carve out hours to research how green their investments really are?

“While most investors may find it difficult to research the sustainability of the companies they invest in, there are tools that may be useful,” says Frank Altman, author of “A New Capitalism: Creating a Just Economy That Works for All” and the founder of Community Reinvestment Fund USA.

Altman cites the International Financial Reporting Standards Foundation, which allows companies to report sustainability and environmental performance metrics using standard methodologies. “Investors can use the standards free of charge to review the performance of companies they own or are considering owning,” he says.

More likely, though, investors rely on fund managers and advisors who oversee their 401(k) plans or similar qualified retirement plans, Altman notes. “Investors must demand that the trustees of their plans include investment options including funds that focus on environmental sustainability, good corporate governance and social benefits.”

How ESG Regulations and Requirements are Changing

European officials rolled out the Sustainable Finance Disclosures Regulation in 2021. The rule imposes mandatory ESG disclosures on asset managers.

“After the introduction of SFDR legislation in Europe, with disclosure requirements focused on investments with a sustainability objective, many funds were rebadged or downgraded,” Self says.

According to a May 2024 report from New York-based law firm Debevoise & Plimpton, the SFDR is having an effect on U.S. fund managers, as they have to consider the rule when offering funds to European investors. “At minimum, they have to provide information on the integration of sustainability risks into investment decisions in accordance with Article 6 of the SFDR,” according to Debevoise & Plimpton.

In the U.S., backlash against ESG funds, particularly when it comes to filtering out fossil fuel companies, has complicated the picture. Several states prohibit the use of ESG investments in state pension funds.

A recently approved U.S. Securities and Exchange Commission rule that would have taken effect in 2026, requiring some publicly listed firms to disclose greenhouse gas emissions, climate risks and steps they plan to take to improve carbon output, is on hold while the regulator fights legal challenges from both affected companies and environmental groups that think the rule isn’t strong enough.

How Important Is ESG to Investors?

According to data from fund researcher Morningstar, in the first quarter of 2024, global sustainable funds attracted nearly $900 million of net new money, versus small outflows in the previous quarter.

Nine hundred million dollars may sound like a lot, but in asset management terms, it’s paltry.

According to Morningstar, U.S. sustainable funds saw their worst-ever quarter with $8.8 billion in outflows. That was offset by nearly $11 billion in inflows in Europe, with the balance attributable to activity in non-U.S. and non-European markets.

One possible culprit? Younger investors appear to be losing interest in ESG investing, according to a 2023 survey by the Stanford Graduate School of Business.

“We find a significant drop in enthusiasm for ESG among millennial and Gen Z investors, who used to be bedrock advocates for environmental and social causes,” wrote Amit Seru, professor in the Stanford Graduate School of Business and the Hoover Institution Working Group on Corporate Governance.

He added that millennial and Gen Z fervor about sustainable investing is more tempered than in the past. That is partly due to concerns about volatile market conditions, Seru added.

“Young investors tell us that they are much less willing to lose personal money to see progress made against issues such as climate change, sustainability, labor conditions and diversity in the workplace,” he wrote. “With their confidence down, investors are more cautious about risking their personal wealth to support stakeholder issues.”

Among baby boomers, it was widely believed that women were interested in ESG and sustainable investing. A 2021 report from RBC Wealth Management indicated as much. However, amid political backlash, market volatility and uncertainty about topics such as greenwashing, the number of studies attempting to quantify women’s interest in sustainability has declined.

The data indicate interest is on the wane. According to Morningstar, the first quarter of 2024 marked the second quarter in a row that sustainable fund closures outpaced launches, with two new funds versus 10 liquidations.

How to Know if You’re Getting Greenwashed as an Investor

While it’s not practical for most retirement investors to dig into data and sustainability reporting on individual stocks or even funds, there are some options for those who do.

“I’ve seen investing move toward a more positive, intentional model, and it’s being driven by investors who care about what they own,” says Krull. “As the driving force behind this positive shift, you can be proactive about aligning your investments with your values and demand that your financial partner is the leader and advisor you’re paying them to be.”

Krull recommends working with an advisor whose full-time focus is on sustainable investing, and asking pointed questions, such as whether or not the advisor includes fossil fuel investments in portfolios.

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What Does Greenwashing Mean in Sustainable Investing? originally appeared on usnews.com

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