How to buy a carbon-conscious fund in wake of Supreme Court EPA ruling

August 19, 2024

The Supreme Court last week limited the Environmental Protection Agency’s ability to regulate greenhouse gas emissions to fight climate change — and that may leave eco-conscious investors wondering what they can do.

Certain investment managers offer funds meant to promote values such as environmental preservation and social good, and those funds have become more popular in recent years.

Trying to pick a so-called environmental, social and governance fund — especially one that aligns well with your interests — can seem challenging at first, however.

“I think it can be really hard to know where to start,” said Fabian Willskytt, associate director of public markets at Align Impact, a financial advisory firm that specializes in values-based investing.

But there are some simple steps investors trying to make an impact on climate change can take to get started and invest with confidence.

Court says Congress has regulatory authority

A coal burning power plant.

Dwalker44 | E+ | Getty Images

In a 6-3 ruling, the Supreme Court on Thursday stripped away some of the EPA’s authority to rein in planet-warming carbon emissions from U.S. power plants.

Chief Justice John Roberts and the court’s five other conservative members said Congress, not the EPA, has the power to create a broad system of cap-and-trade regulations to limit emissions from existing power plants to help transition the country from coal to renewable energy. (A cap-and-trade system is one policy mechanism to reduce emissions.)

Fossil fuel-fired power plants are the country’s second-largest source of carbon pollution in the U.S., behind transportation.

U.S. Supreme Court Chief Justice John Roberts and Supreme Court Justice Elena Kagan on Feb. 4, 2020 in Washington.

Mario Tama | Getty Images News | Getty Images

“Capping carbon dioxide emissions at a level that will force a nationwide transition away from the use of coal to generate electricity may be a sensible ‘solution to the crisis of the day,'” Roberts wrote. “But it is not plausible that Congress gave EPA the authority to adopt on its own such a regulatory scheme.”

While the decision still leaves room for the EPA to regulate emissions more broadly, many see it as a major setback for the Biden administration’s agenda to combat climate change. Meanwhile, climate legislation proposed by Democrats has been stuck in Congress.

“Today, the Court strips the Environmental Protection Agency (EPA) of the power Congress gave it to respond to ‘the most pressing environmental challenge of our time,'” Justice Elena Kagan wrote in her dissent, joined by the court’s two other liberal members.

Just what are ESG funds?

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Funds that allocate investor money according to ESG issues held $357 billion at the end of 2021 — more than four times the total three years earlier, according to Morningstar, which tracks data on mutual and exchange-traded funds.

Investors poured $69.2 billion into ESG funds (also known as sustainable or impact funds) last year, an annual record, according to Morningstar.

These funds come in a variety of flavors. Some may seek to promote gender or racial equality, invest in green energy technology or avoid fossil fuel, tobacco or gun companies, for example.

Women and younger investors (under 40 years old) are most likely to be interested in ESG investments, according to Cerulli Associates survey data. About 34% of financial advisors used ESG funds with clients in 2021, up from 32% in 2020, according to the Financial Planning Association.

There are now more than 550 ESG mutual and exchange-traded funds available to U.S. investors — more than double what was available five years ago, according to Morningstar.

“An individual investor has a lot more [ESG options] and can build a portfolio in ways they couldn’t 10 years ago,” said Michael Young, manager of education programs at the Forum for Sustainable and Responsible Investment. “Almost every [asset] category I can think of has a fund option, so we’ve come a long way.”

But fund managers may use varying degrees of rigor when investing your money — meaning that environment-focused fund you bought may not necessarily be as “green” as you might think.

Here’s an example: Some fund managers may “integrate” ESG values when picking where to invest money, but that strategy may only play a supporting (and not a central) role. Conversely, other managers have an explicit ESG mandate that acts as the linchpin of their investment decisions.

But investors may not know the difference between those approaches.

The Securities and Exchange Commission proposed rules in May that would increase transparency for investors and help make it easier for them to select the ESG fund that best conforms with their values. The rules would also crack down on “greenwashing,” the practice in which money managers mislead investors about ESG fund holdings.

Here are some ESG tips for investors

All this might leave you thinking: How can I get started? And how can I be confident my investments truly align with my values?

There are some simple steps investors can take, according to ESG experts.

One way to start is by examining the asset manager, which serves as a good “shorthand” for investors, according to Willskytt at Align Impact.

Some firms are focused on ESG and have a long history of investing this way — both of which are encouraging signs for people serious about values-based investing, he said.

If you have confidence in the manager, the funds will be more or less strong from an ESG perspective.

Fabian Willskytt

associate director of public markets at Align Impact

Investors can get a sense of a firm’s commitment by looking at its website and whether it displays ESG as a major focus, he added. From there, investors can pick from that firm’s available funds.

“It’s a definitely a red flag if you can only find the barest of [website] information,” said Jon Hale, director of sustainability research for the Americas at Sustainalytics, which is owned by Morningstar. “It suggests the commitment maybe isn’t as high as with other funds.”

Examples of ESG-focused firms include Calvert Research and Management and Impax Asset Management, Willskytt said. Nuveen, which is owned by TIAA, also has a relatively long track record of ESG investing, he added.

Morningstar rated Calvert and Pax, along with four others (Australian Ethical, Parnassus Investments, Robeco and Stewart Investors) as the category’s asset-management leaders, according to an ESG Commitment Level assessment issued in 2020. (However, not all cater to U.S. individual investors.) An additional six, including Nuveen/TIAA, ranked a tier below in the “advanced” ESG category.

“If you have confidence in the manager, the funds will be more or less strong from an ESG perspective,” Willskytt said. “Then it’s about finding the flavors that work for you.”

There is a drawback, however. Despite ESG fund growth, investors may not yet be able to easily find a fund that corresponds with a specific issue, depending on the niche. There are plenty of climate-focused funds and broad ESG funds that account for many different value-based filters, for example, but something like a gun-free fund is harder to find, experts said.

Most (70%) of sustainable funds are actively managed, according to Morningstar. They may carry a bigger annual fee than current funds in your portfolio (depending on your current holdings).

Investors who want to learn a bit more about ESG before taking the plunge can review a free course on the basics from the Forum for Sustainable and Responsible Investment.

Taking another approach to ESG

Thomas Barwick | DigitalVision | Getty Images

Investors can also start by sifting through a few free databases of mutual funds and ETFs.

The Forum for Sustainable and Responsible Investment has one database that lets investors sort ESG funds according to categories like asset class (stock, bond, and balanced funds, for example), issue type and investment minimum.

This list isn’t exhaustive, though — it includes funds from the forum’s member firms. (However, the fact that the firm is a member may be a reliable screen for the asset manager’s ESG rigor, Young said.)

As You Sow is another organization that can help investors find funds that are fossil fuel-free, gender-equal, gun-free, prison-free, weapons-free and tobacco-free, for example. It maintains rankings of the top funds by category.

An individual investor has a lot more [ESG options] and can build a portfolio in ways they couldn’t 10 years ago.

Michael Young

manager of education programs at the Forum for Sustainable and Responsible Investment

Alternatively, investors can also use As You Sow’s website to gauge how well their current investments align with their values. They can type in a fund’s ticker symbol, which generates a fund score according to different value categories.

Other firms also assign ESG ratings to specific funds. Morningstar, for example, assigns a certain number of “globes” (“5” being the best score) so investors can assess the fund’s ESG scope. Morningstar has an ESG Screener that also lets investors filter for funds according to certain parameters.

One caveat: The globe system and other third-party ratings don’t necessarily signal an asset manager’s ESG intent. In theory, a fund could have stellar ESG ratings by accident, not due to a manager’s focus.

Investors also can use fund databases to identify ESG investments they might like, then research the asset-management firm to see how committed the firm is to ESG overall.

For investors who aren’t as do-it-yourself oriented, working with a financial advisor well-versed in ESG may be the most surefire way to know your investments most square with your values and mesh with your overall portfolio and investment goals. Advisors may have more advanced screening tools at their disposal relative to a retail investor, for example.

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