Earth-First Funds Are Soaring

Funds with sustainability in mind are super popular these days; these six are ready to deliver returns.

photo illustration green investing
(Image credit: Getty Images)

Green stocks weren’t the only investments that had a scorching year. Funds that invest with sustainability in mind sizzled, too. Some posted triple-digit returns over the past 12 months. Investors followed the money and poured more than $50 billion in 2020 into sustainable funds—mutual funds and exchange-traded funds that have a sustainability objective or that use environmental, social and governance measures as binding criteria for picking securities. That’s more than double the record set in 2019. And it represents 24% of overall inflows into U.S. stock and bond funds for the year.

In other words, sustainable investing hasn’t just arrived; it’s taking over. Though in 2020 investors pulled more money from U.S. stock funds than they put in, those outflows were offset by inflows into sustainable funds. “Investors pulled money from U.S. equity, sector-equity, international-equity and allocation funds in 2020, but added money to sustainable funds in each of those category groups,” says Jon Hale, head of sustainability research at Morningstar.

The Kiplinger ETF 20 — Our Favorite Exchange-Traded Funds for Every Investor

And green funds, which emphasize climate, environmental and renewable-energy themes, were among the most popular choices. Four of the top 10 sustainable funds with the biggest inflows in 2020 were focused on renewable energy. “Some of this is, unfortunately, performance-chasing,” says Jon Hale, head of sustainability research at Morningstar. “But with the new administration emphasizing climate change and the transition to a net-zero economy,” he adds (referring to President Biden’s goal for the country to balance the amount of greenhouse gas produced and the amount removed from the atmosphere by 2050), “I expect investor interest in these funds to continue.”

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To find the best offerings in this area, we sifted for funds with a stated environmental focus, as well as for ESG portfolios with the best (lowest) scores for environmental risk, according to Morningstar. Of the ETFs listed below, one is actively managed, and three track custom-designed indexes. Only one mutual fund met our screening criteria. Returns and data are through February 5.

Change Finance U.S. Large Cap Fossil Free ETF (symbol CHGX (opens in new tab), expense ratio 0.49%) This fund proves that exclusion screens—barring certain types of companies from a portfolio—can work. Change Finance U.S. Large Cap Fossil Free ETF wins top environmental ratings from Morningstar and delivers good returns, too.

The list of companies the ETF excludes is long. Among others, oil, gas, coal and tobacco companies are out, as are businesses that produce, process or burn fossil fuels and firms that produce nuclear power. Companies with a history of discrimination, violating human rights or labor laws, or committing business malpractice get the boot, too. But most important, firms that flunk certain environmental standards related to pollution, land use, the health impacts of products and the management of hazardous substances are not allowed in the fund.

The end result, according to the fund’s website, is a portfolio with a total carbon footprint that’s 86% smaller than that of the S&P 500. Tesla, Eli Lilly, Snap, Walgreens Boots Alliance and Capital One Financial were the fund’s top five holdings at last report.

The fund’s track record impresses, too. Over the past three years, it has gained 18.0%, beating 97% of its peers (funds that invest in large companies with a blend of value and growth characteristics) and the S&P 500.

ETHO Climate Leadership US ETF (ETHO (opens in new tab), 0.45%) As its name suggests, this ETF makes the environment a priority. But a firm’s standing on social and governance criteria gets consideration, too.

Etho Capital, the firm behind the fund, uses a stock-picking system developed by Ian Monroe, a Stanford University environmental science lecturer, to build an index of companies that sport the smallest carbon footprints in their industry. The fund’s four managers assess each business, from its operations to its suppliers and customers, to “find the most climate-efficient companies,” says Monroe, who is also Etho’s chief investment officer. The end result is an index that’s diversified among industries as well as small and large companies.

That’s by design: The fund is meant to be a core holding. Companies are equally weighted—each of the 268 constituents gets an equal share of fund assets—and the fund is rebalanced once a year, in April. At last report, its biggest positions were solar-energy company SunPower; Tesla; and Wesco International, a global electrical distribution and services company. “By investing in the most climate-efficient companies in a wide range of industries,” says Monroe, “you’re investing in companies that are more efficient with operations, and you will do better compared to peers.”

Indeed, Etho Climate Leadership outpaced the S&P 500 in every calendar year since the start of 2016 except one (in 2018, it lagged the broad index by 0.1 percentage point).

First Trust EIP Carbon Impact ETF (ECLN (opens in new tab), 0.96%) The staid utility sector is undergoing a shift to renewable energy that could boost sales and earnings. First Trust EIP Carbon Impact ETF, an actively managed fund, offers investors a way to capitalize on that change.

Electric utilities’ shift from coal generation to cleaner forms of energy has helped to lower greenhouse gas emissions in recent years, says James Murchie, fund comanager and chief executive of Energy Income Partners, the fund’s subadviser. It saves the utilities money, too, because it costs less to deliver energy derived from renewable sources than energy produced from coal. Murchie and two comanagers look for companies that actively reduce or help to reduce greenhouse gas emissions in the way they produce, store or convert energy.

Utilities and energy firms make up most of the portfolio. NextEra Energy, a utility with big stakes in renewable energy derived from wind, solar and nuclear power (and one of our Green Stock picks), is its top holding. The ETF has only been around since August 2019. But it has returned an annualized 12.0% since then, outpacing the 6.1% average for utilities funds, with less volatility. It yields 2.01%.

Invesco WilderHill Clean Energy ETF (PBW (opens in new tab), 0.70%) It may look as if we’re chasing returns by picking WilderHill Clean Energy, which is up 237% over the past 12 months. But we had already added the fund to the Kiplinger ETF 20, the list of our favorite ETFs, last year.

Investors embraced alternative-energy stocks big-time in 2020, and that’s WilderHill’s focus. It tracks an index of companies that focus on green and renewable energy sources (wind, solar, hydro, geothermal and biofuel), as well as companies involved in energy storage, clean energy conversion, power delivery and conservation.

Given the strong green rally, some stocks in the fund have posted huge returns. At least seven of the fund’s 56 holdings climbed more than 1,000% in price over the past year, including FuelCell Energy. But volatility works both ways, and the ride with this fund can get bumpy. Since inception, the ETF has been more than twice as volatile as the S&P 500 as measured by standard deviation.

iShares MSCI ACWI Low Carbon Target ETF (CRBN (opens in new tab), 0.20%) Resolute green investors in search of a globally diversified fund to serve as a portfolio mainstay should consider iShares MSCI ACWI Low Carbon Target ETF.

The fund holds large and midsize U.S. and foreign stocks in all sectors. Companies with low greenhouse gas emissions relative to sales get a bigger slice of the fund’s assets. (In the traditional MSCI ACWI index, stocks are weighted by market value.) Tech, financial services and consumer-oriented stocks figure prominently; energy and utilities stocks do not. Apple, Microsoft and are top holdings. Foreign stocks make up 46% of assets.

This ETF has beaten the MSCI ACWI index in seven of the past 10 calendar years. It yields 1.46%.

Putting the E in ESG first

There are plenty of choices for mutual funds that invest in companies that score well on environmental, social and governance measures overall. But singling out funds that put the environment first narrows the field considerably.

Fidelity Select Environment and Alternative Energy Portfolio (symbol FSLEX (opens in new tab), expense ratio 0.85%), however, is worth considering. The fund offers a diversified approach to companies that are tackling climate change. It holds stocks in every sector—mostly in companies with at least one-fourth of revenue tied to one of a smorgasbord of environmentally friendly pursuits, including increasing fuel efficiency, generating renewable energy, building water infrastructure and recycling. Prospective stocks must score well on social and governance measures, too.

Honeywell, an industrial conglomerate that is a top holding in the fund, works with building owners to install more energy-efficient systems. Electrical connector supplier TE Connectivity makes key components for electric vehicles. And 3M is a big supplier to solar and wind companies. “3M products go into almost every renewable energy you can think of, but you won’t see 3M’s name on the side of a wind turbine,” says manager Kevin Walenta. Tesla is the fund’s biggest holding.

The fund lagged the S&P 500 over the past three years, but with a 27.2% return, it walloped the broad-market benchmark over the past 12 months.

Nellie S. Huang
Senior Associate Editor, Kiplinger's Personal Finance

Nellie joined Kiplinger in August 2011 after a seven-year stint in Hong Kong. There, she worked for the Wall Street Journal Asia, where as lifestyle editor, she launched and edited Scene Asia, an online guide to food, wine, entertainment and the arts in Asia. Prior to that, she was an editor at Weekend Journal, the Friday lifestyle section of the Wall Street Journal Asia. Kiplinger isn't Nellie's first foray into personal finance: She has also worked at SmartMoney (rising from fact-checker to senior writer), and she was a senior editor at Money.