Are the returns on “green” equity funds correct?

“Green” funds have had a tough time recently. The energy crisis and the war in Ukraine pushed the issue of sustainability into the background. But fund savers are now buying more of these financial products again.

Sustainability has long since arrived in the financial sector. More and more investors want to do good and thereby generate returns. However, sustainable funds have struggled with a number of problems in recent years.

The price performance of many fund products with a focus on sustainability was sometimes worse than that of classic funds. Those who invested in solar and wind farm manufacturers often came up short compared to a classic, broadly diversified share portfolio. In the wake of the energy crisis and the Russian war of aggression against Ukraine, shares in oil multinationals and defense companies boomed instead. Rheinmetall shares, for example, even made it into the German stock index DAX after a sharp rise in price.

The trend has reversed again

However, this weaker performance is more of a snapshot, at least according to Verena Menne from the Association for Sustainable Investments, FNG: “If you look at a very specific time frame and then compare curves, you can come to the conclusion that sustainable funds (…) have produced worse returns,” says the expert. But there are also scientific studies that show “that sustainability does not result in a loss of returns and even that sustainable funds may be a little more risk-resilient.”

Sustainable funds had to contend with outflows of funds worldwide last year, partly due to the rather disappointing performance. In the current year, however, the trend has reversed again, with “green” funds collecting funds again. In Germany, the importance of sustainable funds even grew in 2023, says Menne, citing statistics from the BVI fund association: “The total sum of sustainable mutual funds and special funds was around 900 billion euros at the end of 2023. That is a growth of 20 percent compared to the previous year.” Sustainable investments therefore make up around a fifth of the German overall market, as the fund market totals around four trillion euros.

Greenwashing deters potential buyers

In recent years, the fund industry has been under pressure on the subject of sustainability for another reason: accusations of “greenwashing”, i.e. the mislabeling of “green” fund products, have been making the rounds. The US Securities and Exchange Commission even imposed a million-dollar fine on DWS, a fund subsidiary of Deutsche Bank, because the company’s funds were not as sustainable as claimed.

“Greenwashing is still a problem at the moment because it simply confuses consumers who would like to invest “green” and then find out to their disappointment that they are somehow investing in Total and Shell,” says Magdalena Senn from the non-governmental organization “Finanzwende”.

Stock selection by Exclusion procedure

Sustainable funds generally proceed in several stages when selecting stocks. In most cases, certain sectors such as weapons or fossil fuels are excluded by means of an exclusion process (see graphic). In addition, sustainability ratings of companies are often taken into account. The extent to which companies are committed to climate protection, but also biodiversity or the protection of human rights plays a role.

At the European level, fund investments are now divided into certain categories to make it easier for investors to make decisions. According to the “EU Disclosure Regulation”, there are two types of sustainable funds: Products under Article 8 invest partly in sustainable investments. Funds under Article 9, on the other hand, invest exclusively in sustainable investments.

Investors want to make an impact

A number of sustainable banks that offer their own funds also rely on so-called “dark green” funds under Article 9. “When you ask investors about sustainable investments, more than two-thirds of people are more concerned with the issue of explicitly achieving a positive impact,” says Florian Koss of Triodos Bank, “so that’s actually what is summarized under Article 9, an impact of the fund investment and proof of it.”

However, the EU’s recently introduced set of rules is currently being put to the test. By mid-2025, it should become even clearer how “green” existing fund products really are. Greenwashing should then be made even more difficult. “The European Securities and Markets Authority (ESMA) has issued new guidelines, and they are much clearer and stricter,” says financial turnaround expert Senn. “When they apply to all ‘green’ funds by May next year, a lot will change, because a lot of what is currently in them will no longer be allowed to be included.”

According to Senn, some funds will then also have to sell securities from companies that are not classified as sustainable. Or the funds would have to rename themselves and would no longer be allowed to use their name to signal that they are “green”.

Fund overviews provide selection assistance

However, fund savers do not have to wait until next year if they want to invest in sustainable funds. Anyone who really wants to invest “green” will find what they are looking for now. An overview of sustainable fund products is provided by FNG on its website. The non-governmental organization “Facing Finance” also has an overview on the website “Fair Funds” published.