Vanguard and Northern Trust ESG Funds added bets on Russia before the war

(Bloomberg) — As Vladimir Putin gathered military forces on Ukraine’s borders in January, Vanguard Group and Northern Trust Corp. social and governance risks”.

Major asset managers including Blackrock Inc., State Street Corp. and Amundi SA, also hold shares through ESG funds in Sberbank PJSC and in Russian oil companies Gazprom PJSC and Rosneft PJSC, according to data compiled by Bloomberg. In total, ESG funds held at least $8.3 billion in Russian assets before Putin invaded Ukraine.

The Northern Trust and Vanguard portfolios, which meet official European standards for a sustainability label, are index funds, and the rise in Sberbank’s holdings was likely related to a rebalancing of stocks in the index or the distribution of new funds, and not an active choice based on the company’s fundamentals. But the timing, just weeks before Russia invaded Ukraine, and now the challenges of dumping Russian stocks point to one of the passive investing challenges for ESG investors.

“Passive investing and sustainable investing don’t mix,” said Jack Nelson, portfolio manager at Stewart Investors’ Sustainable Funds Group. “If you invest in an active fund, you can be judgmental. If you do it passively, you turn into a robot.

Vanguard declined to comment on individual holdings, saying in an online statement that it was actively trying to sell its positions in Russian companies, most of which are held in index funds. Northern Trust said it was taking steps to appropriately manage its clients’ “very limited” exposure to Russian securities, which is mainly through index funds, and “will liquidate positions that no longer meet the account purposes or fail to comply with any applicable sanctions as soon as practicable.”

Once limited to broad market portfolios like the S&P 500, the explosion of niche index products has enabled – and profitably – ESG investors to adopt the same strategy. ESG indices provided by companies like FTSE Russell and MSCI Inc., and the funds that track them, favor companies with high ESG ratings, underweight those that perform poorly, and filter out additional problem sectors such as weapons , coal and tobacco.

This means that even stocks with traditionally weak ESG credentials, such as fossil fuel companies or autocratic public banks, find their way into ESG labeled funds. As the fund grows, or as poorly rated companies do, these positions increase.

But outsourcing decisions about what constitutes a sustainable investment allows asset managers to avoid liability for sometimes questionable holdings, said Adrienne Buller, senior researcher at Common Wealth, a UK-based think tank.

“Index funds are a free get out of jail card to have this kind of holdings,” she said. “There is the possibility of pointing fingers [the index provider] who can then point it to the asset manager and say, well, legally, they don’t have to respect exactly everything we have in the basket. »

Last Wednesday, MSCI and FTSE Russell announced they were removing Russian stocks from their widely followed indexes, excluding them from large swaths of the investing world. BlackRock said last Thursday that it had halted purchases of Russian stocks in its active and index funds.

Those who are now trying to unload their Russian positions are having a hard time. The Moscow Stock Exchange has been closed since February 28 and did not say when it will reopen.

Sustainable funds, including ESG offerings, collectively manage approximately $2.7 trillion in assets. But while the broad category has gained traction, the industry has been criticized for not adapting its rhetoric to changes in the real economy, and remains divided over its purpose and methods. The death toll in Ukraine has brought these divisions into sharp focus again and with new urgency.

“These unprecedented events are a real live stress test for portfolios, for investors and for index providers,” said Dimitris Melas, head of index research at MSCI. “In the end, it only took us a few days to react.”

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