ESG is in the eye of the beholder. There are multiple lists of stocks that score well on Environmental, Social and Governance metrics. My favorite is Lockheed Martin (LMT), a perennial member of the Dow Jones Sustainability Index. If building weapons to blow up people and property can be done in a sustainable way, then ESG is a generous mistress (see Pipeline Buybacks and ESG Flexibility).
There are currently 138 ESG ETFs traded on U.S. markets, with almost $90BN in AUM. The most important thing about ESG investing is that it’s growing faster than the market. A cynic might regard the rush by CEOs to demonstrate ESG-ness as driven by asset flows rather than altruism. ESG-driven investors can note with satisfaction the market-beating performance of such funds. The largest ESG ETF is the iShares ESG Aware MSCI USA ETF (ESGU), with $15BN in AUM.
The pipeline sector offers 7% yields, growing free cash flow and strong recent performance. It has been out of favor more often than not in recent years, but Joe Biden’s arrival at the White House has ushered in rising energy prices with less growth spending (see Is Biden Bullish For Pipelines?). Investors are warming to policies that encourage parsimonious funding of new projects, something that eluded them during Donald Trump’s presidency.
Some may avoid pipelines because of historic volatility, although operating performance last year was scarcely affected by Covid. The energy transition deters others, although a pragmatic desire not to wreck the economy means natural gas retains its bright future as part of the solution to reducing emissions. A third cohort thinks fossil fuel companies are bad, even though it’s how the world has reached today’s living standards. There’s a belief that the energy sector has much to apologize for.
It may surprise this last group to learn that ESGU has a 2.5% weighting to energy, virtually indistinguishable from the S&P500’s 2.6%. ESGU holds Kinder Morgan (KMI), Cheniere (LNG), Oneok (OKE), Targa Resources (TRGP) and Williams Companies (WMB), all components of the American Energy Independence Index. Relative to the S&P500 it has modest overweights in Chevron (CVX) and Exxon Mobil (XOM). It also overweights Nextera Energy (NEE), one of the largest producers of electricity from natural gas.
ESGU has some interesting underweights, including Alphabet (GOOG) and Microsoft (MSFT) both companies with plenty to say about their ESG credentials. Clearly ESG-ness isn’t a binary issue, or Facebook’s dual share class would knock them out on the Governance scale. Instead, it trims them to 1.81% in ESGU versus 2.06% in the S&P500. Berkshire Hathaway (BRK) is ESGU’s biggest underweight, at 0.84% versus 1.47%. Those omitted from ESGU are an eclectic bunch, including Tyson Foods (TSN) and Boston Scientific (BSX). The complete absence of airlines in ESGU fueled some of its outperformance. Covid crushed the sector rather than any ESG shortcomings.
These differences are trivial, which means ESGU looks a lot like the S&P500 and tracks it closely. For the past couple of years, their daily returns are 0.99 correlated, and ESGU has outperformed by 2.1% p.a. It’s unlikely that ESG-run companies offer better long-term performance than the market. More likely is that investors just want to own them a little more, which is boosting their stock returns.
Index providers continue to compete to be the market standard for ESG-ness. Current standards vary. Since probably every member of the S&P500 has ESG slides in its investor presentation, it’s hard to avoid virtue-claiming companies.
If ESG doesn’t impact operating results, then eventually ESG funds will underperform the market because buyers will have overpaid. But for now, metrics from the past two years tempt the virtue-signaling investor – good odds of roughly tracking the market, some chance to beat it and the claim to morally higher ground than one’s peers.
The substantial overlap between ESGU and the S&P500 simplifies the choice facing an ESG-motivated investor. ESGU’s portfolio signifies approval of almost the entire S&P500. There’s no discernible difference in virtue between an investor in ESGU or the S&P500 itself. What ESGU does offer is a small bet on continued flows into ESG funds.
ESGU’s energy holdings represent an endorsement. An investor hesitating to take advantage of the high yields and growing free cash flow of pipelines because of a misplaced concern that her liberal friends may frown can point to ESGU for absolution.
Energy, and pipeline companies specifically, sit at market weight or better in many of the biggest ESG funds. They should – coal to natural gas switching in the U.S. has done more than renewables to lower emissions over the past decade. U.S. exports of liquified natural gas offer other countries the opportunity to emulate our success. Pipelines are ESG.
We are invested in all the components of the American Energy Independence Index via the ETF that seeks to track its performance.
The information provided is for informational purposes only and investors should determine for themselves whether a particular service, security or product is suitable for their investment needs. The information contained herein is not complete, may not be current, is subject to change, and is subject to, and qualified in its entirety by, the more complete disclosures, risk factors and other terms that are contained in the disclosure, prospectus, and offering. Certain information herein has been obtained from third party sources and, although believed to be reliable, has not been independently verified and its accuracy or completeness cannot be guaranteed. No representation is made with respect to the accuracy, completeness or timeliness of this information. Nothing provided on this site constitutes tax advice. Individuals should seek the advice of their own tax advisor for specific information regarding tax consequences of investments. Investments in securities entail risk and are not suitable for all investors. This site is not a recommendation nor an offer to sell (or solicitation of an offer to buy) securities in the United States or in any other jurisdiction.
References to indexes and benchmarks are hypothetical illustrations of aggregate returns and do not reflect the performance of any actual investment. Investors cannot invest in an index and do not reflect the deduction of the advisor’s fees or other trading expenses. There can be no assurance that current investments will be profitable. Actual realized returns will depend on, among other factors, the value of assets and market conditions at the time of disposition, any related transaction costs, and the timing of the purchase. Indexes and benchmarks may not directly correlate or only partially relate to portfolios managed by SL Advisors as they have different underlying investments and may use different strategies or have different objectives than portfolios managed by SL Advisors (e.g. The Alerian index is a group MLP securities in the oil and gas industries. Portfolios may not include the same investments that are included in the Alerian Index. The S & P Index does not directly relate to investment strategies managed by SL Advisers.)
This site may contain forward-looking statements relating to the objectives, opportunities, and the future performance of the U.S. market generally. Forward-looking statements may be identified by the use of such words as; “believe,” “expect,” “anticipate,” “should,” “planned,” “estimated,” “potential” and other similar terms. Examples of forward-looking statements include, but are not limited to, estimates with respect to financial condition, results of operations, and success or lack of success of any particular investment strategy. All are subject to various factors, including, but not limited to general and local economic conditions, changing levels of competition within certain industries and markets, changes in interest rates, changes in legislation or regulation, and other economic, competitive, governmental, regulatory and technological factors affecting a portfolio’s operations that could cause actual results to differ materially from projected results. Such statements are forward-looking in nature and involves a number of known and unknown risks, uncertainties and other factors, and accordingly, actual results may differ materially from those reflected or contemplated in such forward-looking statements. Prospective investors are cautioned not to place undue reliance on any forward-looking statements or examples. None of SL Advisors LLC or any of its affiliates or principals nor any other individual or entity assumes any obligation to update any forward-looking statements as a result of new information, subsequent events or any other circumstances. All statements made herein speak only as of the date that they were made. r
Certain hyperlinks or referenced websites on the Site, if any, are for your convenience and forward you to third parties’ websites, which generally are recognized by their top level domain name. Any descriptions of, references to, or links to other products, publications or services does not constitute an endorsement, authorization, sponsorship by or affiliation with SL Advisors LLC with respect to any linked site or its sponsor, unless expressly stated by SL Advisors LLC. Any such information, products or sites have not necessarily been reviewed by SL Advisors LLC and are provided or maintained by third parties over whom SL Advisors LLC exercise no control. SL Advisors LLC expressly disclaim any responsibility for the content, the accuracy of the information, and/or quality of products or services provided by or advertised on these third-party sites.
All investment strategies have the potential for profit or loss. Different types of investments involve varying degrees of risk, and there can be no assurance that any specific investment will be suitable or profitable for a client’s investment portfolio.
Past performance of the American Energy Independence Index is not indicative of future returns.