While client demand will drive growth in funds and companies that are focused on sustainable investing priorities in future, there is a risk that investors could end up owning overpriced assets in a similar way to the technology stock bubble of the late 1990s, according to Guillaume Mascotto, head of ESG and investment stewardship at asset management firm American Century Investments.
He says: “Time horizon, turnover, risk appetite and investable universe are important characteristics to consider in ESG capital allocations.
"Some strategies, by nature of their design and alpha objectives, may be forced out of the scope of ESG regulatory schemes. This increases the risk of an overcrowded ESG trade (that is, overpricing) as managers create similar products and own the same securities.”
Mascutton says investors can find opportunities in sectors of the market which are ESG compliant but not as highly priced as areas such as renewable energy, where a bubble might be emerging.
He says areas such as smaller companies and businesses that are improving their ESG practices offer opportunities.
“As ESG demand grows, investors should be mindful of the potential clustering risk around the ESG trade. Asset managers should redouble efforts to be creative in unearthing ESG rising stars (that is, issuers in earlier stages of business inflection) at the onset of their ESG disclosure journeys or on the verge of improvement following business misconduct controversies.”