FMA calls out industry over ethical claims

This article was originally featured on Good Returns and was written by Jenni McManus.

Investors hunt for ethical funds but are blinded by jargon and take investment advice from friends, FMA survey finds

A just-released FMA survey has revealed that 68% of New Zealand investors want ethical and responsible investments but few are putting their money where their mouth is.

Of this 68%, only 26% have actually chosen a fund manager based on its ethical credentials; 51% have not and 23% have looked into it but done nothing.

There appear to be multiple barriers.

“Investors were overwhelmed by technical jargon and often relied on a leap in faith in choosing an ethical investment,” says the FMA’s director of investment management, Paul Gregory. Others abandoned the search as “too hard” and did not choose an investment at all.

The survey also revealed that most investors don’t fully read product disclosure statements and instead rely on fund managers’ websites and marketing materials, along with the opinions of friends.

Gregory says New Zealanders are clearly hunting for funds that match their ethics or values but their due diligence is “brief”.

“This reinforces that scale of the information advantage that fund managers have over investors,” he says. “We will continue to provide information and help investors make good decisions about investment products that align with their values, while also working with providers to ensure they are also helping potential and existing investors with better quality information and disclosure.”

Some investors find the ESG terminology for describing ethical investments too difficult to navigate as they don’t know what to look for, the survey shows. The options are diverse and confusing and the longer it takes to do the research, the less likely investors are to purchase an ethical product.

Smaller providers are more likely to be seen as ethical than larger ones and while some investors consider ethical investments because these products fit with their values, others do it because they don’t want to feel guilty.

Fund managers need to do a better job of explaining why certain companies or sectors have been excluded, the FMA says. Those using a positive screening approach – where a fund tilts investment towards activities it believes contribute to positive non-financial outcomes – need to better explain how investments will be selected.

Descriptions of a fund’s non-financial benefits or objectives are sometimes so high-level that they are useless. Funds also failed to give investors adequate information on performance measurement, reporting and the consequences of breaches.

Once committed to a fund, investors generally don’t monitor its ongoing ethical performance. Nor do they consider replacing it with another, the survey found.

The FMA’s survey and review involved 14 KiwiSaver and other managed funds. It focused on how well the sector is applying the regulator’s guidance, issued in December 2020, on what it calls ‘integrated financial products’, otherwise known as ethical, responsible, sustainable, green or ESG funds.

The funds were chosen by using these key words in the fund’s name or description. More than 2500 people were surveyed online during March and April this year.

The 2020 guidance includes the type of disclosure framework the FMA wants fund managers to use to demonstrate they can substantiate on a reasonable basis the ethical credentials of their products.

As demand for these funds increases, the FMA says it wants to ensure investors can be confident that products are delivering what they promise and that investors are protected from false and misleading claims. It is the overall impression that counts, and omissions can be as misleading as false statements.

The FMA has the power to make stop orders to ban advertising or other disclosures that confuse, or are likely to confuse, investors on matters that influence their investment decisions. The penalty for failing to comply is a fine of up to $300,000.

Providers must be able to explain clearly and substantiate how their products are ethical.

Samantha Barrass, the FMA’s chief executive, signalled back in March that the regulator would be targeting greenwashing – the making of false or misleading claims about a fund’s ethical credentials. Greenwashing is a breach of the Financial Markets Conduct Act.

The FMA’s review is the second ‘ethical’ investment survey to hit the market this year. In April, a survey by Mindful Money and the RIAA (Responsible Investment Association of Australasia) found that 50% of respondents were concerned about greenwashing and 54% would be more likely invest in a fund that was certified by an independent third party.

Nevertheless, despite these concerns, nearly three-quarters of respondents (73%) wanted their funds to be invested responsibly and ethically, and 56% said they would consider switching KiwiSaver funds if they discovered their fund was investing in companies that were not consistent with their values.

The FMA’s survey also comes hard on the heels of a scathing report in The Economist this week, describing ESG as one of the hottest trends in finance but “deeply flawed”.

The problem is with trying to measure ESG, as it lumps together a “dizzying array of factors” and illuminates none. As an example, The Economist cites Elon Musk who is helping the environment by popularising electric cars but is also “a corporate governance nightmare”.

In The Economist’s view, ESG should be boiled down to one single factor: emissions.