Journal of Financial Planning: December 2024
Paulina Mejia serves as national fiduciary counsel and Jeff Finkelman serves as managing director of sustainable investing at Fiduciary Trust International (www.fiduciarytrust.com), a global wealth management firm headquartered in New York, NY.
Climate scientists have warned for decades that unless action is taken, each new generation is likely to face a more dire climate crisis than the last. That reality has become an increasing source of anxiety and despair for many Americans, none more so than 69 million people in the United States that belong to Generation Z. In a study published in The Lancet in 2021, researchers found that nearly 60 percent of young people surveyed across 10 countries described being “very” or “extremely” worried about climate change.1 Among those in the United States, only 9 percent said they were “not worried.”
With recent hurricanes raging across the Southeast and as the nation remains at the highest level of preparedness for wildfires, it is no wonder these fears and anxieties are often top-of-mind as young adults begin working with financial advisers to plan a future for themselves and their families. Advisers able to integrate sustainability into their financial planning and investment management practice may improve their chances of winning the trust of younger clients and of retaining existing assets as they pass from one generation to the next.
To Address Climate Anxiety, Draft a Plan
Sustainable investing, which may be defined as the practice of integrating sustainability factors into the investment process, includes a wide range of strategies that advisers may use to meet the needs of climate-focused clients. But even as young people are looking to their financial planners and investment advisers to help them translate their concerns about climate change into action, they generally do not want to do so at the expense of their other goals. One of the adviser’s most important roles is arguably that of educator, ensuring clients understand the risks and rewards of different sustainable investing strategies and how they can be combined in an effort to achieve the client’s financial and values-based objectives.
That process usually begins with the development of a sustainable investing strategy. Investment advisers are already familiar with the process of developing an investment policy statement (IPS) to guide the pursuit of investment returns while respecting constraints like risk tolerance and liquidity needs. Clients, especially multi-generational families, may benefit from a similar process to clarify and operationalize their sustainability objectives. Young adults may be the lone voice calling attention to climate change or may be struggling to reconcile their concerns about the climate with the inheritance of a concentrated position in a family business. The process of drafting a plan helps surface everyone’s views, identify priorities, and ultimately build consensus.
Though it may be difficult, it’s often worthwhile to schedule a dedicated block of time to discuss sustainability, rather than trying to fit it in as a line item in a busy quarterly or bi-annual meeting. The goal of the discussion should not be to reach agreement but to gather input from every stakeholder on the relevance of social or environmental concerns to the client’s portfolio. For some, climate change may be an investment risk factor worthy of consideration only to the extent that it doesn’t affect returns. Others may regard sustainable investing as an important reflection of their values or as an extension of their philanthropic activities. For advisers, it is a chance to probe the client’s thinking and raise issues they may not have considered.
As these conversations often include multi-generational clients, the discussion is also an opportunity for the adviser to facilitate a conversation for the family around their values and what their legacy means in a way that can be more productive than the proverbial Thanksgiving dinner conversation.
With the input gathered, the adviser then has the task of drafting a strategy document or integrating the client’s views directly into the IPS. Among the more important elements to capture in the document are:
Purpose: An articulation of the client’s ultimate objective and motivation.
- Why are they interested in pursuing sustainable investing?
- Looking back in five or 10 years, what do they hope to have accomplished?
Principles and beliefs: An outline of the fundamental beliefs that should guide construction of their investment portfolio.
- Are there sectors, industries, or business activities they would like to avoid?
- Do they have any views about the relationship between sustainability and investment performance?
Objectives: A description of any specific sustainable investing objectives the client hopes to achieve.
- Are there particular themes they would like to address in the portfolio?
- Are there specific measures of success they would like to track?
Once drafted, the updated IPS or sustainable investing strategy document can be shared with the client for further discussion and iteration before being finalized. Short or long, general or specific, a sustainable investing strategy document helps equip young clients concerned about climate change with a tangible action plan.
The Toolkit Approach to Sustainable Investing
One of the key risks in initiating a discussion about sustainability with clients is the potential of setting expectations too high. In the abstract, the idea of investing sustainably may leave clients feeling that practically anything is possible. But tax considerations, liquidity concerns, return requirements, risk tolerance, and any number of other factors can quickly constrain the range of options. Helping clients understand the various types of sustainable investing strategies and what they can and cannot accomplish is a critical part of the process.
It may be helpful to talk about sustainable investing as a toolkit capable of helping clients with two main goals: alignment and impact.
Creating Alignment
Alignment strategies are used to pursue the goal of ensuring the client’s holdings remain consistent with their values, principles, and beliefs. These include exclusionary screening and tilting strategies, which place greater weight on positions that are consistent with the client’s views. A client that goes to great lengths to lead a climate-friendly lifestyle will usually be disheartened to learn they own shares of companies they see as “part of the problem.” A values-aligned portfolio may give them some peace of mind, albeit at the cost of a higher level of tracking error.
Finding alignment need not be based on values alone. Young adults concerned about climate change readily grasp the importance of investing with a long-term time horizon. Constructing the core of a portfolio with market-rate oriented strategies that integrate financially material sustainability factors into the investment process is another important means of fulfilling a client’s commitment to sustainability. These strategies may be used to execute the adviser’s strategic or tactical asset allocation, helping the portfolio stay true to its long-term risk and return targets. Smaller, satellite allocations to thematic strategies focused on specific sustainability issues, such as water, diversity, or clean energy, may help enhance the alignment of the portfolio, ideally without introducing excessive levels of risk.
Generating Impact
Impact investing strategies may also help achieve portfolio alignment, but they are unique in their potential to affect positive social or environmental change and thus tend to elicit the most excitement from clients. Despite having beneficent intentions, many impact investments are not necessarily return sacrificing. Most are designed to harness the power of profit-motivated markets to scale solutions to social and environmental challenges. According to the latest data from the Global Impact Investing Network, nearly three-quarters of impact investors describe themselves as targeting risk-adjusted, market-rate returns.2 In a separate survey, more than four-fifths of respondents said their impact investments met or exceeded their expected returns.3
The primary way impact investors achieve these dual objectives of impact and return is to invest in new or underserved markets, whose inefficiencies create the potential for outperformance. The threat of climate change has created one of the largest impact opportunities in this category. According to McKinsey, the energy transition alone has the potential to draw an average of $9 trillion of investment annually through 2050 if the world is to achieve its net zero goals.4 Other climate-related themes, such as waste reduction and sustainable agriculture, offer smaller but no less enticing opportunities to invest.
Most market-rate impact investing strategies exist in the private markets and some clients may lack the size to build a well-diversified allocation to impact private equity, private credit, or private real assets funds. But they are not out of options. The public markets offer less direct but more accessible means of affecting change within an investment portfolio. Proxy voting and shareholder engagement are two available impact investing tools. Companies face increasing pressure, from both regulators and investors, not only to disclose more information about their exposure to climate risk, but also to mitigate it. An essential part of the due diligence process when evaluating third-party managers for climate-focused clients is to ensure the investment team’s proxy voting record matches their climate rhetoric.
Some third-party managers stand out not just for how they vote proxies, but for their efforts to engage with the companies in their portfolio on climate-related risks and opportunities. Clients who own stock directly may have the opportunity to join in. Subject to certain eligibility requirements,5 owners of publicly traded stock in the United States are empowered to file resolutions with companies that may be put to a vote by the entire shareholder base at the company’s annual meeting. Organizations, such as the Interfaith Center on Corporate Responsibility, offer guidance on how shareholders can become involved.
Finally, a small but meaningful portion of the impact investing market is devoted to concessionary investments. These strategies offer “flexible capital,” intentionally sacrificing return or accepting uncompensated risk as a means of generating social or environmental impact. Examples include lending to a social enterprise at below-market rates or forgoing liquidity to give a mission-driven company time to mature. Flexible capital is most effective when used to fill a gap between the limits of philanthropic support and return-maximizing capital.
How to Earn the Trust of Younger Generations
As advisers begin talking with younger clients about these various sustainable investing tools and how they might be deployed within a portfolio, it is important to keep several things in mind.
Be real. Younger investors value authenticity. Given increasing sensitivities to “greenwashing,” not to mention the duty to give clients honest advice, it is important to acknowledge the limits of what can be achieved within an investment portfolio. Sustainability investing is not a panacea, but it can be part of a client’s comprehensive, personal action plan on climate change.
Do your homework. Take the time to explore the fundamentals of climate change, the nuances of sustainable investing, and the client’s own views on the issues. Fossil fuel divestment is just one of many active debates within the sustainable investing community. Be prepared to discuss both sides of these arguments with clients to help them figure out where they stand.
Start small. Sustainable investing can introduce a lot of complexity into an investment portfolio and leave clients unsure about where to start. Building an aligned and impactful portfolio takes time. Encourage clients to begin with small steps and help them set achievable goals.
Remain objective. Engaging with younger clients often involves facilitating conversations between generations, and they may not always agree. Planners should have their facts ready and be able to discuss both the pros and cons without overpromising. It’s important to address the risks honestly and avoid claiming that any solution will solve all problems. Being objective is key.
Modern Financial Planning
Engaging younger clients and prospects about values-based investing is not merely a trend; it’s an increasingly key component of modern financial planning. By understanding the unique concerns of younger investors and employing a toolkit approach to sustainable investing, financial planners can foster deeper relationships and align investment strategies with their clients’ values.
These conversations can open the door to intergenerational engagement, ensuring the next generation feels seen, heard, and empowered in their financial journey. As the demand for sustainable investing grows, financial planners who embrace this shift may enhance their practice while contributing to a more sustainable future and empowering the next generation.
This material is intended to be of general interest only and should not be construed as individual investment advice or a recommendation or solicitation to buy, sell or hold any security or to adopt any investment strategy. It does not constitute legal or tax advice. The views expressed are those of the investment manager and the comments, opinions and analyses are rendered as at publication date and may change without notice. Fiduciary Trust International (FTI) has certain environmental, social and governance (ESG) goals or capabilities; however, not all strategies are managed to “ESG” oriented objectives. Integrating ESG considerations into the investment process is not a guarantee that better performance will be achieved. All investments involve risks, including possible loss of principal. Data from third-party sources may have been used in the preparation of this material and FTI has not independently verified, validated, or audited such data. FTI accepts no liability whatsoever for any loss arising from use of this information and reliance upon the comments, opinions and analyses in the material is at the sole discretion of the user.
Endnotes
- Hickman, Caroline, et al. “Climate Anxiety in Children and Young People and Their Beliefs about Government Responses to Climate Change: A Global Survey.” The Lancet 5 (12): e863–e873.
- Hand, Dean, Sophia Sunderji, Maddie Ulanow, Renée Remsberg, and Kelly Xiao. 2024. State of the Market 2024: Trends, Performance and Allocations. Global Impact Investing Network (GIIN). https://s3.amazonaws.com/giin-web-assets/giin/assets/publication/giin-stateofthemarket2024-report-2024.pdf.
- Avery, Charles. 2024, August 1. “Data Snapshot: Impact Investors Satisfied with Financial Returns.” New Private Markets. www.newprivatemarkets.com/data-snapshot-impact-investors-satisfied-with-financial-returns/.
- Krishnan, Mekala, Hamid Samandari, and Jonathan Woetzel, et al. 2022, January. “The Net-Zero Transition: What It Would Cost, What It Could Bring.” McKinsey & Company. www.mckinsey.com/capabilities/sustainability/our-insights/the-net-zero-transition-what-it-would-cost-what-it-could-bring.
- Interfaith Center on Corporate Responsibility. “Shareholder Resolutions.” www.iccr.org/shareholder-resolutions/.