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Green group finds some 'climate-friendly' ETFs hold coal-related shares

A pair of exchange-traded funds that are labeled as fossil fuel-free actually hold shares in mining and energy companies with coal operations, British environmental research group InfluenceMap said in a Sept. 19 report.

The environmental, social and governance fund sector is growing fast and has been estimated to now exceed $1 trillion with about three-quarters of all asset owners investing in such funds, the report said.

European policymakers and other experts have suggested the growing popularity of ESG funds could eventually boost investments in low-carbon assets that will help tackle climate change. But InfluenceMap suggested that oversight or transparency in funds and education of the public may be needed for the movement to truly exclude fossil fuels and drive that kind of transition.

"In general, this is a really fast-growing sector and there are currently no systems in place to ensure what retail investors think they're buying is really what they're getting," said Adrienne Buller, an InfluenceMap analyst and author of the report.

Buller analyzed 118 funds worth a combined $18 billion as of June that are marketed with climate-friendly terms such as carbon neutral, fossil fuel-free, low carbon and sustainability. Those 118 funds are managed by 65 different financial groups or asset managers.

The report found that 15 of those financial groups, including State Street Global Advisors Inc., BlackRock Inc., and HSBC Holdings PLC, had climate-themed funds with companies that have fossil fuel operations or assets. But most of the groups did not have fossil fuels in their climate-related ETFs.

Two State Street funds, SPDR MSCI EAFE Fossil Fuel Reserves Free ETF and SPDR MSCI Emerging Markets Fossil Fuel Reserves Free ETF, worth a combined $100 million, included fossil fuel reserves through holdings in companies including RWE AG, which engage in both the production of thermal coal and coal-fired power generation, and mining giant Vale SA.

Both funds rely on MSCI fossil fuel reserves free indexes that exclude companies that own oil, gas and coal reserves. The research found both funds had fossil fuel intensity levels comparable to State Street's SPY STF, which is based on the S&P 500 index of the largest U.S. companies. Moreover, when exposure to thermal coal was considered, the two funds were 100 times as thermal coal intensive as the SPY.

Parent company State Street Corp. in an emailed statement suggested InfluenceMap missed some important nuances "relating to addressing carbon in portfolios." State Street also said index provider MSCI is expected to change one of the fossil-fuel reserves free indices in November to address "some of the more stock-specific nuances of companies."

But State Street said it will stay invested in metallurgical coal used in the steelmaking process. "Eliminating all carbon exposure would result in a heavily concentrated portfolio that may not be suitable for all investors," it suggested.

MSCI Inc. did not immediately respond to a request for comment.

Some of the asset managers that InfluenceMap determined had truly fossil-fuel-free climate-themed funds are BNP Paribas SA , Nordea Bank Abp's Nordea Invest Management, Franklin Resources Inc.'s Franklin Templeton Investment, Pictet & Cie Group SCA, and Schroders PLC.

Amid the rise of ESG-related funds, so too has scrutiny of those funds increased. Vanguard Group Inc. in August updated its marketing materials for an ESG-related fund to indicate that the fund's exclusion of fossil fuels are limited to companies that hold fossil fuel reserves. The group made the clarification and, after further review, also opted to dump 29 stocks, including a private prison operator and a gun manufacturer, from its ESG funds about a month after The Financial Times had reported the funds had included multiple oil companies. Vanguard told investors the gun manufacturer and other companies had been included due to an error in the screening methodology.

No countries have regulations defining low-carbon or fossil-fuel-free funds, Buller noted. The European Union Commission, which recently published a taxonomy for investors and companies to make sustainable investment decisions and prevent greenwashing, had considered creating a taxonomy for so-called brown investments such as those with high-carbon profiles, she said. But the commission dropped that idea after the topic became too politically charged to resolve. Buller suggested the EU may eventually need to revisit the idea of identifying brown investments to further ensure investments are environmentally friendly.

While EU regulations certainly will not ensure companies based in other countries, such as the U.S., will change their practices, Buller was confident EU rules would have some influence given that many funds are offered globally.