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A strategy or emphasis on environmental, social and governance factors ("ESG") may limit the investment opportunities available to a portfolio. Therefore, the portfolio may underperform or perform differently than other portfolios that do not have an ESG investment focus. A portfolio's ESG investment focus may also result in the portfolio investing in securities or industry sectors that perform differently or maintain a different risk profile than the market generally or compared to underlying holdings that are not screened for ESG standards.
Biden's Victory—A Likely Boon For ESG, But Is It Enough?
Though the U.S. will likely remain divided on constitutional issues, ESG (environmental, social and governance) observers expect President-elect Joe Biden to rejoin the Paris climate deal and roll back many of President Donald Trump's cuts to environmental rules, including fracking/methane emissions regulations on domestic oil and gas drilling and federal greenhouse gas emissions-reduction initiatives such as the Clean Power Plan. The Democratic-controlled House of Representatives will likely echo Biden's stance on climate change, resulting in a strengthening of the federal government's role in energy and environmental policy.
A 180-Degree Turn on Climate?
While the appeal of investing in renewable energy assets will continue irrespective of regulatory developments as technological learning curves improve, an abrupt switch away from fossil fuels should be limited as a result of continued low natural gas prices, infrastructural obstacles and potential pushback from Republicans if they maintain control of the Senate.
Biden has voiced support for a gradual energy transition in which natural gas (and by extension the controversial practice of fracking) will likely remain categorized as a "transitional fuel." From an ESG investing standpoint, we believe the focus on environmental protection and operational health and safety will continue to be material issues at the forefront of the fracking debate.
A Boost for Sustainable Investing?
While the Biden win is certainly a positive from a momentum perspective, we expect interest in ESG investing to continue growing beyond political and regulatory developments such as the Department of Labor's proposed rule on limiting ESG investment options for pension plans or Biden's climate plan. This corresponds with deep shifts in investor mindset and the growing linkage between ESG issues and their social and economic impacts. Climate change, affordable health care and education and income inequality are pressing global issues that are increasingly shaping the millennial generation's worldview and fueling interest in impact investing. A 2020 American Century Investments study recently found that 60% of millennials in the U.S. find impact investing appealing.
Top ESG Investment Themes for 2021
Tackling the COVID-19 pandemic will be a top priority for the Biden administration. This should continue to position health care as a key investment theme in 2021, especially as it relates to innovation in treatments and therapies and access to medicines.
Related to the fight against COVID-19, businesses exposed to the stay-at-home/digital economy such as software, data center, cloud-based and 5G networking companies will also remain attractive. However, these companies will likely face heightened data privacy and security risks. We expect cybersecurity to be of growing importance for investors in 2021 and beyond.
The pandemic and its material human, economic and financial costs will also likely continue supporting the notion that the environment, public health and global economy intertwine. Therefore, another key ESG issue in 2021 will be the implications of transitioning toward a circular economy, which goes beyond increased use of renewable energy or recycling. To be successful, it must represent a systemic shift in value chains. Companies must rethink resource consumption, energy usage and manufacturing processes with an aim toward eliminating waste and generating renewable output. We see upside potential in several areas, including water and waste management, sustainable agriculture, bioenergy and renewable biochemicals, smart grid technologies and power storage.
Sustainable Development—Do It Strategically, Not Tactically
Like with any form of systemic change, moving effectively toward a circular economy, fostering a clean tech innovation "revolution," and implementing concrete policies to contain climate change shouldn't be about speed per se. Tactical changes are seldom sustainable, but strategic ones tend to be. Before articulating an argument on how sustainable development is achievable, it's necessary to focus on why it isn't.
If sustainable development isn't yet compatible with our current, fossil fuel-dependent and open-loop system, change must come from within the system. We believe the Biden administration's key challenge will be maximizing the incentives to scale advanced and knowledge-intensive renewable energy/closed-loop solutions while balancing social and economic considerations to which the U.S. is currently exposed. Sustainability is not a binary concept—it is also about establishing an equilibrium between shared priority issues for all stakeholders. This exercise goes beyond defining "materiality" * and can only be achieved through a sustained effort on the part of business leaders, policymakers and their constituents to gradually evolve traditional measures of productivity, wealth and well-being.
* We view ESG issues as an important input into fundamental analysis which can help mitigate downside risk or increase upside potential associated with ESG issues, otherwise not captured by traditional financial analysis. Guided by American Century Investments’ multi-layered ESG framework , we define materiality as any ESG issues that could potentially move the needle on a company’s market valuation or warrant decrements to its fundamental profile, notably earnings visibility and growth trajectory.
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The opinions expressed are those of American Century Investments (or the portfolio manager) and are no guarantee of the future performance of any American Century Investments' portfolio. This material has been prepared for educational purposes only. It is not intended to provide, and should not be relied upon for, investment, accounting, legal or tax advice.
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References to specific securities are for illustrative purposes only, and are not intended as recommendations to purchase or sell securities. Opinions and estimates offered constitute our judgment and, along with other portfolio data, are subject to change without notice.
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The information is not intended as a personalized recommendation or fiduciary advice and should not be relied upon for, investment, accounting, legal or tax advice.
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