SRI (Socially Responsible Investing) Robo Advisor Update

Posted on September 15, 2021

SRI or ESG investing remains a hot trend in the investment industry. At Backend Benchmarking, we compare the equity performance of the SRI/ESG options and the standard options at the same robo advisor to analyze their differences. 

SRI Robo Advisor Performance

Socially Responsible Investing (SRI), also known as Environmental, Social, and Corporate Governance (ESG) investing, remains a hot trend in the investment industry. According to reports from Morningstar, SRI-themed ETFs and mutual funds had “net flows of $51billion in 2020, more than double the total of 2019” and, perhaps even more surprisingly, these flows were “10 times more than 2018”. At the Robo Report, we compare the equity portfolios of SRI-themed robo advisors and their standard counterparts at the same provider to analyze their differences.

When looking at just the equity portion of the overall portfolios, five of the six pairs of SRI-themed portfolios outperformed their standard counterparts on a 2-year trailing basis for the period ending June 30, 2021, including Morgan Stanley, Merrill Lynch, TIAA, Betterment, and TD Ameritrade.

The equity portfolios of the standard options earned an average return of 19.14%, while the SRI options returned 20.13%. Furthermore, this outperformance occurred despite significantly higher fund fees; the standard group’s average fund fees are 0.06%, while the SRI group’s average is 0.26%.

Drivers of Return

When digging into the drivers of return, there are a few points to consider. First, the SRI-themed portfolios in all six scenarios had a higher percentage allocated to growth stocks. For example, the top performer of the category, Morgan Stanley SRI, is allocated to 33% growth and 21% value, while the standard option was allocated to 29% growth and 28% value. This was at a time when the Russell 3000 Growth Index returned 74.35%, cumulatively, and the Russell 3000 Value Index returned 31.65%, cumulatively, for the 2-year trailing period ending June 30, 2021.

Another contributing factor was allocations across market-caps. Four of the five outperforming SRI-themed robo advisors had a larger average market cap amongst portfolio holdings. Betterment, for example, had an average market cap of $47 billion for the SRI theme and just $39 billion for the standard option. Meanwhile, Merrill Edge’s SRI theme had an average market cap of $87 billion, while the standard option had just $71 billion. This bolstered performance in a period when the Russell 200 and Russell 1000, a mega-cap and large-cap index, respectively, modestly outperformed the Russell Midcap and Russell 2000 index, a mid-and small-cap index, respectively.

ESG Risk Reduction

When looking at the ESG scores themselves, we use Portfolio ESG Risk Scores from Morningstar to better understand the implications of these conscientious options. Note that the lower the score, the less of a risk the security is from a sustainability perspective. The average standard robo had a score of 23.26, while the SRI-themed average was 21.48 for the six robo advisor pairs in the 2-year study group. For context, scores between 10-19.99 are Low ESG Risk, 20-29.99 are Medium ESG Risk, and 30-39.99 are High ESG Risk.

In all six pairs, there was a persistent reduction of ESG Risk between one and three points, moving towards Low ESG Risk and away from Medium Risk. Notably, the highest performing portfolio, Morgan Stanley SRI, had the lowest (best) ESG Portfolio Risk score of the group. It has yet to be seen if spending more on fund expense ratios is worth a modest few points of ESG Risk reduction. But if SRI themes continue to outperform, conscientious investors can have their cake and eat it too.

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