What comes after the ESG hype?

Past Momentum and Current Headwinds

In recent years, ESG investments have experienced significant growth. The years 2020 and 2021 saw a true ESG boom: asset managers launched sustainable products by either introducing new funds and strategies or reshaping existing portfolios according to ESG principles, while customer interest surged, driving fund inflows to unprecedented levels. On a societal level, the pandemic underscored the fragility of our ecological and social ecosystems, spurring efforts toward a post-pandemic recovery focused on a greener future.

However, priorities began to shift over time, particularly following Russia's invasion of Ukraine in early 2022. Immediate energy security took precedence over the longer-term energy transition, with exit technologies (e.g., nuclear power in Germany) returning to focus, and even defense and arms investments being reconsidered within a sustainable framework. Meanwhile, the regulatory landscape became increasingly complex with measures such as the Sustainable Finance Disclosure Regulation (SFDR), leading to confusion and frustration among companies, investors, advisors, and clients. At the same time, an anti-ESG movement gained momentum in the U.S., with several states attempting to prevent ESG factors from influencing public pension fund investments.

A Look Beyond the Headlines

At first glance, the recent development of inflows and outflows in sustainable and ESG funds appears to confirm the narrative of an ESG decline. According to Morningstar, the last quarter of 2023 marked the first global net outflows from sustainable funds. However, this trend has since reversed, with the total assets of sustainable funds reaching new highs, albeit at a much slower pace than in previous years. A closer look reveals regional differences: the outflows were consistently driven by net losses in the U.S., while Europe maintained steady net inflows, attracting $37 billion in sustainable funds in the first three quarters of 2024.

Moreover, it is crucial to distinguish whether funds are losing assets due to a general trend across the entire asset class or because investors are actively moving away from ESG and sustainable products. Recent inflows into sustainable equity strategies could not keep pace with broader asset class inflows, whereas sustainable fixed-income funds saw stronger inflows amid a general reallocation into the asset class.[1]

Understanding trends in sustainable investing is further complicated by the lack of a clear and universally accepted definition of “sustainable” or “ESG investing.” For instance, the German fund association BVI categorizes funds based on their SFDR classification, referring to Article 8 or 9 funds as “funds with sustainability features”[2], while Morningstar defines funds as “sustainable” if sustainability is explicitly central to their investment process as stated in the prospectus.[3]

While attention has recently shifted away from sustainable and ESG factors as a primary selling point for financial products, the global challenges that originally drove the integration of ESG factors—such as climate change, biodiversity loss, and others—remain unaffected by shifting market trends. Asset owners, particularly in Europe, are keenly aware of this reality. According to a 2023 LSEG survey[4], 73% of European pension funds identified climate change as an investment priority, compared to 53% of U.S. funds. Furthermore, a recent Morningstar study[5], found that 67% of asset managers worldwide believe ESG considerations play a more significant role in their investment processes today than five years ago.

Not only are investors focused on sustainability, but companies are also continuing their efforts in 2024. According to a Gartner survey[6], 69% of CEOs view sustainability as a growth opportunity, and an EY survey[7] revealed that 54% of companies are prioritizing sustainability more than they did a year earlier. However, corporate prioritization remains uneven. A PwC survey[8] found that CEOs struggle to derive value from climate-related opportunities and risks, while a Bain & Company survey[9] showed that CEOs sometimes deprioritize sustainability in favor of other pressing issues, such as advancements in AI and geopolitical concerns.

Looking Ahead

The trends in inflows and outflows in sustainable funds, the perspectives of decision-makers, and the deeper discussions behind the headlines reveal a common thread: the initial wave of ESG enthusiasm has receded, but the underlying commitment to sustainability and sustainable investing endures, supported by regulation and amplified by the visibility and personal impact of global challenges. Headlines proclaiming the “death of ESG” may grab attention but miss the bigger picture. With the initial hype subsiding, we are entering a more stable phase where meaningful progress in sustainable investing is possible—focused on identifying specific ESG factors that are material to investments.

For investors truly interested in sustainable investing, an “ESG label” on a product is no longer enough; they now seek substantive impact on both investment decisions and corporate practices and are justifiably wary of greenwashing. This demand can only be met with greater transparency regarding ESG integration in financial products. Evolving ESG regulations will likely increase the workload for asset managers and investment firms in the short term, but they also present an opportunity to address past challenges, improve transparency, and guide the industry toward positive change.

In the hype cycle of sustainable investing, we have passed the peak of inflated expectations, entered a period of disillusionment, but are hopefully moving toward a “plateau of productivity.” This phase offers the opportunity to reassess, realign, and identify meaningful ways to make sustainable investing impactful for the future.

• [1] For data on fund inflows and outflows, see: Morningstar, Global Sustainable Fund Flows: Q3 2024 in Review, available at www.morningstar.com/business/insights/blog/funds/global-sustainable-fund-flows-quarterly-data, retrieved on 04/11/2024.
• [2] See, for example, BVI, Fokus Nachhaltigkeit Q2/2024, available at https://www.bvi.de/service/sta..., retrieved on 04/11/2024.
• [3] See the appendix to Morningstar Global Sustainable Fund Flows.
• [4] See LSEG-FTSE Russell, Sustainable Investment: 2024 Global Survey Findings from Asset Owners, available at www.lseg.com/ftse-russell, retrieved on 04/11/2024.
• [5] See Morningstar, Voice of the Asset Owner Survey 2024, available at https://indexes.morningstar.co..., retrieved on 04/11/2024.
• [6] See Gartner, 2024 CEO Survey – The Year of Strategy Relaunches, available at https://www.gartner.com/en/newsroom/press-releases/2024-06-05-gartner-survey-reveals-69-percent-of-ceos-view-sustainability-as-a-growth-opportunity, retrieved on 04/11/2024.
• [7] See EY, CEO Outlook Pulse (2024), available at https://www.ey.com/en_gl/ceo/ceo-outlook-global-report, retrieved on 04/11/2024.
• [8] See PwC, 27th Annual Global CEO Survey (2024), available at https://www.pwc.com/gx/en/issu..., retrieved on 04/11/2024.
• [9] See Bain, CEO Sustainability Guide (2024), available at https://www.bain.com/insights/topics/ceo-sustainability-guide/, retrieved on 04/11/2024.