Ben Felix - Why Green Investing May Cost You More Than You Think

Short Summary

Main recommendation: Before choosing a sustainable portfolio, weigh its likely lower expected returns, reduced diversification, and higher fees against how well the specific products actually match your values. Ben Felix argues that sustainable investing carries real costs, and that investors should verify that a product's ESG label truly reflects their own views rather than trusting the name alone.

Key Points

• Research cited by Felix (Ciciretti, Dalo and Dam, 2019) across 5,972 firms from 2004 to 2018 found that higher-ESG companies tended to deliver lower average returns, with a one standard deviation drop in ESG score associated with about a 0.13% increase in monthly expected returns.
• The authors found the negative ESG premium more consistent with investor preferences ("tastes") than with a genuine ESG risk factor, meaning investors with sustainable preferences may accept lower returns to avoid certain firms, not that all investors dislike those firms.
• Zerbib (2019) estimated an exclusion effect of 2.5% per year and a taste effect of 1.5% per year in US stock data from 2000 to 2018.
• Sustainable portfolios are less diversified than the market and cost more: a Canadian ESG ETF portfolio was cited at about 0.28% per year versus 0.12% for a similar non-ESG portfolio.
• ESG ratings disagree widely: five major rating agencies had an average correlation of 0.61 (range 0.42 to 0.73), compared with 0.99 for Moody's and S&P credit ratings.

Details Worth Noting

• Concrete instructions: Felix gives a three-step process. Step one: recognize that, while ESG preferences vary across investors, sustainable portfolios have lower risk-adjusted returns. Step two: decide how much trade-off you accept, knowing that stronger ESG preferences generally mean less diversification, lower expected returns, and higher costs. Step three: verify that each selected product actually reflects your views and values, not just its ESG name.
• Compare the options on a continuum: XIC (no ESG filter, 235 holdings, 0.06% expense ratio) tracks the market; XESG (ESG-weighted, 129 holdings, 0.22% expense ratio, about 1% expected tracking error) tilts toward high-ESG firms; Desjardins RI Canada Low CO2 Index ETF (63 holdings, stricter exclusions, 0.29% expense ratio) is more restrictive still.
• Check index construction carefully: the MSCI Canada IMI Extended ESG Focus Index excludes tobacco and weapons but holds Suncor, with energy above 16% of the index, while FTSE's ESG indexes exclude oil, gas and coal producers (though not downstream pipelines).
• Energy is a major point of disagreement among rating agencies, with an average rating correlation of only 0.29 at the energy category level.
• Higher costs can be worthwhile only if the portfolio increasingly reflects your values; the more sustainable you go, the higher the costs tend to get.

Bottom Line

Sustainable investing is a values-based trade-off rather than a free upgrade, so the decision should rest on how much return, diversification, and cost you will accept and whether each fund's methodology truly matches what you care about.