## CHAPTER 3 INVESTMENT FUNDS: FOSTERING THE TRANSITION TO A GREEN ECONOMY

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### Key findings and urgency
- The sustainable investment fund sector can be an important driver of the global transition to a green economy but, at the current juncture, is too limited in size and scope to have a major impact and faces challenges related to greenwashing.
- Total assets under management of sustainable investment funds are small but growing rapidly, more than doubling over the past four years to reach $3.6 trillion in 2020. Climate-oriented funds accounted for $130 billion of that total.
- To limit global warming to well below 2°C by 2100, a global transition to a low-greenhouse-gas economy is required over the next three decades (IPCC 2021).
- Achieving net-zero carbon emissions by 2050 will require additional global investments in the range of 0.6 to 1 percent of annual global GDP over the next two decades, amounting to a cumulative $12 trillion to $20 trillion (IEA 2021; IMF 2021a).
- The investment fund sector now represents about one-third of the assets held by the nonbank financial institution sector.

### Sector size, composition, and recent dynamics
- Sample and counts:
  - As of the end of 2020, 36,500 funds were still active and totaled $49 trillion in assets under management.
  - Sample for chapter analyses covers the period 2010:Q1–20:Q4.
  - In the chapter’s regression analyses, funds are included only if assets under management exceeded $500 million at least once over the entire sample period.
- Sustainable fund specifics (end-2020):
  - Sample of more than 36,500 funds active as of the end of 2020.
  - About 4,000 funds had a sustainability label.
  - Nearly 1,000 funds had an environment theme.
  - A little more than 200 funds had a climate-specific theme.
  - Total AUM of funds in the sample: about $49 trillion.
  - Sustainable funds (including climate-specific): about $3.6 trillion.
  - Climate-focused funds: $130 billion.
- Fund types and market structure:
  - At the end of 2020, the shares of equity, fixed-income, and allocation funds were 39.2 percent, 27.6 percent, and 19 percent, respectively.
  - Within the subsample of thematic climate funds, shares were: equity 56 percent; fixed-income 21 percent; allocation 17 percent.
  - The share of passive funds was 22 percent for climate-focused funds and about 13 percent for conventional funds and other sustainable funds.
  - Collective investment vehicles grew at an average annual rate of 11 percent over 2013–19 and represented 31 percent of nonbank financial institutions’ assets as of the end of 2019.
  - Year-to-date aggregate climate bond issuance amounted to $258.8 billion as of September 1, 2021.
- Flows:
  - Net flows into sustainable funds broadly matched conventional funds during 2010–19 but increased notably in 2020, to about 5 percent of lagged assets under management in 2020:Q4.
  - Net flows into climate-labeled funds surged by 48 percent of assets under management over the four quarters of 2020 and have remained above net flows into conventional funds since 2017.

### Conceptual framework: how funds can facilitate the transition
- Two main channels:
  - Portfolio channel: investor preferences and risk–return assessments create inflows into sustainable funds that increase the supply of capital to firms supporting the transition, reducing their cost of capital and encouraging transition-aligned investments.
  - Stewardship channel: sustainable funds influence firms’ strategies via engagement and proxy voting to improve sustainability practices, outcomes, and disclosures, reinforcing transition-aligned corporate policies.
- Positive feedback loop: Investors’ sustainability concerns → more investment in climate-mitigating projects → faster transition.
- Funds can also provide debt financing for climate-related assets, including debt with a climate bond label.

### Fund-level transition and carbon metrics: construction and trends
- Data coverage:
  - ESG data coverage and comparability are limited; scores can differ significantly across data providers (less so for the environmental pillar).
  - Only about 55 percent of the equity funds in the sample have sufficient ESG data to be included in the chapter’s quantitative analysis.
- Two constructed scores:
  - Transition-opportunity score: composite measure based on metrics underlying the environmental pillar (including carbon-reduction and environmental management policies, development of renewable-energy-related products/technologies, environmental R&D, and public commitments to divest from fossil fuels). Constructed from Refinitiv’s firm-level environmental innovation score (matched with FactSet portfolio holdings) and Morningstar’s fund-level carbon management score. A higher score implies the fund’s relative financial performance will likely benefit from a faster transition.
  - Carbon-intensity score: measures firms’ Scope 1 and Scope 2 greenhouse gas emissions relative to revenue (tons of CO2-equivalent per million US dollars of revenue). A higher score implies the fund is more likely to be hurt by a quicker transition to a low-carbon economy, all else equal.
- Aggregate trends and distributions (2020:Q4 averages):
  - Transition-opportunity score means: Conventional mean = 31.4; Climate label mean = 38.6.
  - Carbon-intensity means: Conventional mean = 238; Climate label mean = 335.
  - In aggregate, transition-opportunity scores have remained broadly stable while carbon intensities have gradually declined, particularly for funds domiciled in advanced economies.
  - Climate-focused funds have substantially larger exposure to transition-sensitive sectors—utilities, manufacturing, transportation, waste management, construction, and fossil fuels—explaining higher transition-opportunity scores alongside higher carbon intensity.

### Labels, flows, and sustainable finance classifications
- Labels drive flows:
  - After controlling for fund characteristics (including portfolio transition-opportunity score, carbon intensity, ESG score, past returns, and asset class), labels are an important driver of fund flows.
  - The importance of sustainability labels for attracting flows has increased over time.
- Policy role of classifications:
  - Sustainable finance classifications (including climate taxonomies) can help channel flows to sustainable and climate-focused funds by guiding firm behavior, facilitating investors’ assessment of firms’ transition pathways, and scaling up sustainable finance markets.
  - Proper regulatory oversight is needed to prevent greenwashing and ensure labels fairly represent funds’ investment objectives.
  - Examples cited: EU Sustainable Finance Disclosure Regulation (effective March 2021) and UK Financial Conduct Authority guiding principles for sustainable investment funds.

### Stewardship, proxy voting, and real-economy effects
- Proxy voting:
  - Support for climate-related shareholder resolutions has trended up over time and has been significantly greater for sustainable and climate funds than for conventional funds.
  - Funds with a “sustainable” label, especially those with an “environmental” label, are more likely to support climate resolutions.
  - Portfolio-level transition scores do not appear to be a reliable indicator of a fund’s voting behavior on climate resolutions.
- Issuance effects:
  - Sample for securities issuance analysis: 6,449 firms total; 5,446 issued equities at least once; 3,722 issued bonds at least once; Period: 2010:Q1–21:Q1.
  - Increased net inflows into sustainable funds result in a higher likelihood and an increased amount of bond issuance by green firms relative to less green firms, and increased amount of equity issuance by green firms relative to less green firms (even though green firms issue equity somewhat less frequently).
  - “Green” firms = firms in the 75th percentile of the ESG score, E score, transition-opportunity score, and negative carbon intensity. “Less green” firms = firms in the 25th percentile.
  - Additional analysis finds flows into sustainable funds lead to a significant contemporaneous increase in abnormal returns for firms with a high ESG score and high environmental pillar scores.

### Impact of climate-related news on returns, flows, and scores
- Overall finding: Past climate-related news has not had a systematic impact on investment fund returns and flows.
- Events and indices: climate-related news indices back to 2010 from New York Times (two indices), Wall Street Journal (Engle and others 2020), and Google News; nine quarters identified with heightened attention, including the Paris Agreement in 2015:Q4.
- Returns and flows:
  - Climate-related news shows relatively small impact on quarterly returns and flows when comparing high- and low-score funds (transition-opportunity and carbon-intensity).
  - For the Paris Agreement (2015:Q4) the direction of effects aligns with priors (high-transition-opportunity funds and low-carbon-intensity funds benefit) but the size of the effect is small.
- Funds’ scores response:
  - Both carbon-intensity and transition-opportunity scores declined slightly following the Paris Agreement in 2015:Q4, contrary to intuitive expectations.

### Liquidity buffers, cash holdings, and transition-related scores
- Key findings:
  - Fund portfolios with a higher transition-opportunity score are associated with lower cash buffers, particularly if initial buffers exceed the sector median.
  - Funds with higher carbon intensity also appear to hold less cash than those with lower carbon intensity.
  - Cash-buffer effects are mainly present for funds with already-high cash buffers (above the median) — effects appear beyond a certain threshold.
- Quantified example:
  - For example: a fund with a 2.4 percent cash buffer (which corresponds to the mean) will hold 13.5 basis points less cash if its transition-opportunity score increases by one standard deviation; reduce its buffer by 7 basis points if its carbon-intensity score increases by one standard deviation.
- Cash buffer deciles (cash buffer by decile, percent):
  - 1st: 0.13
  - 2nd: 0.14
  - 3rd: 0.40
  - 4th: 0.74
  - 5th: 1.16
  - 6th: 1.69
  - 7th: 2.40
  - 8th: 3.41
  - 9th: 5.25
- Regression controls and methods: ordinary least squares and unconditional quantile regression models regressing cash and cash equivalent buffers on sustainable-label dummy, transition-opportunity and carbon-intensity scores and interactions, lagged flows, log fund size, management fees, ETF dummy, Chicago Board Options Exchange Volatility Index, term spread, credit risk spread, proxy for US interest levels, basket of major exchange rates versus the US dollar; models include region-year and fund-type-year fixed effects.

### Stability implications: investor sensitivity, flows, and resilience
- Findings:
  - Sustainable funds attract investors who are less performance-sensitive and not too short-term-oriented, thus may be less prone to large redemptions.
  - Following lower returns, flows decline, on average, less for sustainable funds than for conventional funds.
  - The lower sensitivity of sustainable investors is more pronounced when funds are experiencing outflows or smaller inflows.
  - Flows to sustainable funds appear more persistent than flows to conventional funds, especially for funds experiencing inflows above the median.
- Interpretation:
  - Sustainable funds exhibit lower redemption risks and a more stable investor base, which could make them an important source of stable financing for green investments.
- Risks:
  - The transition pathway is highly uncertain and could occur at different speeds and through multiple paths, creating transition risks for firms and financial institutions exposed to affected sectors (fossil fuels, utilities, energy-intensive manufacturing, transportation).
  - A large and sudden transition shock (for example, delayed and abrupt tightening in carbon policy) could trigger reassessment of risks and outflows from funds with high transition-sensitive exposures, potential runs on funds, fire sales, and further falls in asset values, with spillovers to other parts of the financial sector and the real economy.
  - Structural amplifiers include liquidity mismatches between funds’ asset holdings and redemption features, credit exposure, and use of financial leverage.
  - Climate-related physical risk is not the focus of the chapter, but transition risks could be amplified if policymakers, consumers, and investors react to large climatic disasters.

### Asset manager survey (Box 3.1): integration of climate considerations
- Survey scope:
  - Responses of 26 portfolio managers and representatives from 11 asset management firms and one asset owner, with more than $16 trillion in combined assets under management, based in Asia, Europe, and the United States.
- Integration and practices:
  - Survey participants indicated sustainability considerations—including climate change considerations—were fully or almost fully integrated into risk management practices.
  - Sustainable investing typically represents about 10 percent of assets under management for these respondents.
  - Most common approach: exclusionary criteria; least frequent: positive screening and impact investing.
  - All respondents used portfolio carbon footprint measures; about three-quarters used proprietary valuation models; 82 percent used third-party ESG databases.
  - Respondents often skeptical of aggregate scores and preferred raw metrics to generate their own scores.
- Challenges and risks:
  - The overwhelming majority saw lack of data, including forward-looking data, as the most pressing obstacle—more so than lack of commonly accepted disclosure standards and taxonomies; particularly acute in private markets.
  - Short- to medium-term risk ranking: policy risk (e.g., higher carbon price or tighter emissions regulations) ranked highest by a majority, followed by physical risk.
  - Opportunities: technological change or changes to consumer preferences were viewed as most important drivers (66 percent of respondents).

### Policy recommendations and prescriptions
- Urgently strengthen the global climate information architecture for both firms and investment funds, including:
  - Data and disclosures.
  - Sustainable finance classifications, including climate taxonomies.
- Ensure proper regulatory oversight to prevent greenwashing and ensure labels fairly represent funds’ investment objectives.
- After information, classification, and oversight elements are in place, consider tools to channel savings toward transition-enhancing funds (such as financial incentives for investments in climate-oriented funds) to complement other climate-mitigation measures, such as a carbon tax.
- To mitigate potential financial stability risks stemming from the transition:
  - Implement a climate policy consistent with an orderly transition.
  - Conduct scenario analysis and stress testing of the investment fund sector (NGFS 2021b).
  - Reforms to improve the availability of liquidity and redemption management tools are warranted (FSB 2020c; IMF 2021b).
- Specific policy notes and examples:
  - A harmonized and consistent set of climate-related disclosure standards. Progress is in sight in this area (IFRS 2021).
  - High-quality, reliable, and comparable data on climate-related metrics, including forward-looking metrics underpinned by verification and audits.
  - Globally agreed-upon principles for sustainable finance classifications (including climate taxonomies) that are well defined, dynamic, and suitable for adoption across advanced, emerging market, and developing economies.
  - Consider enhanced eligibility of climate-themed funds for favorable tax treatment in savings products (such as retirement plans or life insurance products) once information and oversight systems exist.
  - Remove regulatory and legal barriers to investing in sustainable funds through retirement plans (example: U.S. legislative proposals introduced in May 2021 seeking to make 401(k) sponsors more comfortable with sustainable investing). Empirical note: in 2019, 3   percent of 401(k) plans had an ESG option, representing 0.1 percent of plan assets (Norton 2021).
  - Caution: Additional research is needed to better understand optimal design of fiscal incentives.

*Source: Chapter 3, "Investment Funds: Fostering the Transition to a Green Economy," Global Financial Stability Report, October 2021.*

### Chapter 3 at a Glance

### Chapter 3 at a Glance

### Key findings
- The sustainable investment fund sector can be an important driver of the global transition to a green economy but, at the current juncture, is too limited in size and scope to have a major impact and faces challenges related to greenwashing.
- Total assets under management of sustainable investment funds are small but growing rapidly, more than doubling over the past four years to reach $3.6 trillion in 2020. However, climate-oriented funds accounted for only $130 billion of that total.
- Flows into sustainable funds appear to support climate stewardship and encourage the issuance of securities by firms with a more favorable sustainability rating.
- Sustainable investors could also bring financial stability benefits as they are less sensitive to short-term returns.
- Climate-related news has not had a meaningful impact on investment fund returns and flows in the past, but large and sudden transition risk shocks could be disruptive in the future.
- A survey of asset managers suggests that lack of adequate data is a key obstacle to implementing sustainable investment strategies.

### Context and urgency
- To limit global warming to well below 2°C by 2100, a global transition to a low-greenhouse-gas economy is required over the next three decades (IPCC 2021).
- Achieving net-zero carbon emissions by 2050 will require additional global investments in the range of 0.6 to 1 percent of annual global GDP over the next two decades, amounting to a cumulative $12 trillion to $20 trillion (IEA 2021; IMF 2021a).
- The investment fund sector has grown significantly since the global financial crisis and now represents about one-third of the assets held by the nonbank financial institution sector.

### Sector size and composition (sample and statistics)
- As of the end of 2020, 36,500 funds were still active and totaled $49 trillion in assets under management.
- The empirical sample covers the period 2010:Q1–20:Q4.
- At the end of 2020, the shares of equity, fixed-income, and allocation funds were 39.2 percent, 27.6 percent, and 19 percent, respectively.
- In the chapter’s regression analyses, funds are included only if assets under management exceeded $500 million at least once over the entire sample period.
- Collective investment vehicles grew at an average annual rate of 11 percent over 2013–19 and represented 31 percent of nonbank financial institutions’ assets as of the end of 2019.
- Year-to-date aggregate climate bond issuance amounted to $258.8 billion as of September 1, 2021.

### How investment funds can facilitate the transition (conceptual framework)
- Two main channels:
  - Portfolio channel: Investors’ preferences and risk–return assessments create inflows into sustainable funds that increase the supply of capital to firms supporting the transition, reducing their cost of capital and encouraging transition-aligned investments.
  - Stewardship channel: Sustainable funds influence firms’ strategies via engagement and proxy voting to improve sustainability practices, outcomes, and disclosures, reinforcing transition-aligned corporate policies.
- Positive feedback loop: Investors’ sustainability concerns → more investment in climate-mitigating projects → faster transition.
- Funds can also provide debt financing for climate-related assets, including debt with a climate bond label.

### Financial stability risks from the transition
- The transition pathway is highly uncertain and could occur at different speeds and through multiple paths, creating transition risks for firms and financial institutions exposed to affected sectors (fossil fuels, utilities, energy-intensive manufacturing, transportation).
- A large and sudden transition shock (for example, delayed and abrupt tightening in carbon policy) could trigger:
  - Reassessment of risks and outflows from funds with high transition-sensitive exposures.
  - Potential runs on funds, fire sales, and further falls in asset values.
  - Spillovers to other parts of the financial sector and to the real economy through tighter financial conditions.
- Structural vulnerabilities that could amplify shocks include liquidity mismatches between funds’ asset holdings and redemption features, credit exposure, and use of financial leverage.
- Climate-related physical risk is not the focus of this chapter, but transition risks could be amplified if policymakers, consumers, and investors react to large climatic disasters.

### Empirical approach and aims
- The chapter uses a sample of more than 54,000 open-end funds (mostly equity, fixed-income, and allocation funds) to analyze:
  - The evolution of the sustainable fund segment and funds’ exposure to the transition.
  - The importance of sustainability labels in attracting fund flows.
  - The role of sustainable funds in climate stewardship and in encouraging issuance by more environmentally friendly firms.
  - Whether past climate-related news affected fund flows, performance, and portfolio composition.
  - The relationship between liquidity buffers and funds’ exposure to the transition.
  - Whether sustainable investors mitigate financial stability risks by being less sensitive to short-term returns.

### Policy recommendations
- Urgently strengthen the global climate information architecture for both firms and investment funds, including:
  - Data and disclosures.
  - Sustainable finance classifications, including climate taxonomies.
- Ensure proper regulatory oversight to prevent greenwashing.
- After information, classification, and oversight elements are in place, consider tools to channel savings toward transition-enhancing funds (such as financial incentives for investments in climate-oriented funds) to complement other climate-mitigation measures, such as a carbon tax.
- To mitigate potential financial stability risks stemming from the transition:
  - Implement a climate policy consistent with an orderly transition.
  - Conduct scenario analysis and stress testing of the investment fund sector.

*Source: Chapter 3, "Investment Funds: Fostering the Transition to a Green Economy," Global Financial Stability Report, October 2021.*

### CHAPTER 3 INVESTMENT FUNDS: FOSTERING THE TRANSITION TO A GREEN ECONOMY

### CHAPTER 3 INVESTMENT FUNDS: FOSTERING THE TRANSITION TO A GREEN ECONOMY

### Sustainable funds: market share and recent growth
- Sample size and labeling:
  - Sample of more than 36,500 funds active as of the end of 2020.
  - About 4,000 funds had a sustainability label.
  - Nearly 1,000 funds had an environment theme.
  - A little more than 200 funds had a climate-specific theme.
- Assets under management (AUM), end-2020:
  - Total AUM of funds in the sample: about $49 trillion.
  - Sustainable funds (including climate-specific): about $3.6 trillion.
  - Climate-focused funds: $130 billion.
- Net flows and recent dynamics:
  - Net flows into sustainable funds (as a percent of assets under management) broadly matched conventional funds during 2010–19 but increased notably in 2020, to about 5 percent of lagged assets under management in the fourth quarter of 2020.
  - Net flows into climate-labeled funds rose significantly, remaining above net flows into conventional funds since 2017 and surging by 48 percent of assets under management over the four quarters of 2020.
  - One possible reason for the 2020 surge is heightened investor awareness after the COVID-19 crisis about catastrophic events, including climate-related events.
- Industry and market structure notes:
  - As of end-2020, the shares of equity, fixed-income, and allocation funds within the subsample of thematic climate funds were 56 percent, 21 percent, and 17 percent, respectively.
  - The share of passive funds was higher for funds with a climate focus (22 percent) compared with conventional funds and other sustainable funds (about 13 percent).
  - Fees of sustainable funds were slightly higher than those of their conventional peers.
- Market participation:
  - The number of asset managers and asset owners that are signatories to the Principles for Responsible Investment more than doubled from about 1,400 in 2015 to more than 3,000 in 2020.

### Fund-level transition and carbon metrics: construction and trends
- Data coverage and limitations:
  - ESG data coverage and comparability are limited; scores can differ significantly across data providers (less so for the environmental pillar).
  - Only about 55 percent of the equity funds in the sample have sufficient ESG data to be included in the chapter’s quantitative analysis.
- Two key fund-level scores constructed:
  - Transition-opportunity score:
    - Composite measure based on metrics underlying the environmental pillar, including carbon-reduction and environmental management policies, development of renewable-energy-related products/technologies, environmental R&D, and public commitments to divest from fossil fuels.
    - Constructed from Refinitiv’s firm-level environmental innovation score (matched with FactSet portfolio holdings) and Morningstar’s fund-level carbon management score.
    - A higher score implies the fund’s relative financial performance will likely benefit from a faster transition.
  - Carbon-intensity score:
    - Measures firms’ Scope 1 and Scope 2 greenhouse gas emissions relative to revenue (tons of CO2-equivalent per million US dollars of revenue).
    - A higher score implies the fund is more likely to be hurt by a quicker transition to a low-carbon economy, all else equal.
- Aggregate trends:
  - In the global investment fund sector, transition-opportunity scores have remained broadly stable while carbon intensities have gradually declined, particularly for funds domiciled in advanced economies.
  - Emerging market funds’ scores are more volatile but show convergence toward advanced-economy counterparts in carbon intensity.
  - In the aggregate, changes in portfolio scores are driven predominantly by funds’ portfolio allocations and to a lesser extent by changes in firms’ scores.
- Comparative distributions (2020:Q4 averages):
  - Transition-opportunity score means: Conventional mean = 31.4; Climate label mean = 38.6.
  - Carbon-intensity means: Conventional mean = 238; Climate label mean = 335.
- Sectoral exposures:
  - Climate-focused funds have substantially larger exposure to transition-sensitive sectors—utilities, manufacturing, transportation, waste management, construction, and fossil fuels—than conventional funds.
  - This pattern helps explain why climate funds can have higher transition-opportunity scores while also exhibiting higher carbon intensity: they invest in firms likely to play major roles in emissions reductions or in providing carbon solutions during the transition.

### Fund labels, flows, and the role of sustainable finance classifications
- Labels as flow drivers:
  - Fund labels are a convenient and salient summary of a fund’s investment strategy and engagement/stewardship approach.
  - After controlling for fund characteristics (including portfolio transition-opportunity score, carbon intensity, ESG score, past returns, and asset class), labels are shown to be an important driver of fund flows.
  - The importance of sustainability labels for attracting flows has increased over time.
- Policy and regulatory implications:
  - Sustainable finance classifications (including climate taxonomies) can be key tools to channel flows to sustainable and climate-focused funds by:
    - Guiding firm behavior.
    - Facilitating investors’ assessment of firms’ transition pathways.
    - Scaling up sustainable finance markets.
  - Proper regulatory oversight is needed to prevent greenwashing and to ensure labels fairly represent funds’ investment objectives.
  - Examples of regulatory action: the European Union’s Sustainable Finance Disclosure Regulation, which went into effect in March 2021 and requires environmental, social, and governance disclosures of certain financial market participants; recent UK Financial Conduct Authority guiding principles for sustainable investment funds.

### Stewardship, proxy voting, and potential real-economy effects
- Proxy voting trends:
  - Support for climate-related shareholder resolutions (for example, on emission-reduction targets or climate-related disclosures) has trended up over time, indicating increasing investor attention to climate issues.
  - Support for climate-related shareholder resolutions has been significantly greater for sustainable and climate funds than for conventional funds.
- Labels and stewardship signaling:
  - Funds with a “sustainable” label, especially those with an “environmental” label, are more likely to support climate resolutions.
  - Portfolio-level transition scores do not appear to be a reliable indicator of a fund’s voting behavior on climate resolutions, suggesting that a sole focus on portfolio composition may miss funds’ stewardship engagement.
- Examples and evidence:
  - In the United States in 2021 there were 66 proposals specifically related to climate change, as well as additional proposals about climate lobbying and disclosure.
  - Prior research cited indicates shareholder resolutions can influence managerial behavior and voluntary disclosure of climate risks.

*Source: CHAPTER 3 INVESTMENT FUNDS: FOSTERING THE TRANSITION TO A GREEN ECONOMY (Global Financial Stability Report: COVID-19, Crypto, and Climate: Navigating Challenging Transitions), International Monetary Fund, October 2021.*

### 1. Share of Votes in Favor of Climate-Related Resolutions,

### 1. Share of Votes in Favor of Climate-Related Resolutions, by Fund Label, 2015–20 (Percent)

### Climate Stewardship and Proxy Voting
- Sustainable and environment funds support climate-related shareholder resolutions more than their conventional peers.
- Beyond portfolio scores, labels are useful for identifying funds’ climate stewardship.
- Analysis notes:
  - Based on shareholder resolutions in US publicly traded companies.
  - Panel 2 shows impacts of fund labels and one standard deviation increases in fund portfolio scores on the probability that a fund will vote in support of a climate-related resolution.
  - Regression controls: natural logarithm of fund size, fund age, expense ratios, whether a fund is managed passively, region by year fixed effects, and fund category by year fixed effects.
  - Insufficient number of funds with a climate label to analyze proxy voting behavior separately from the broader category of environment-labeled funds.
  - Solid bars in figure indicate significance at the 10 percent level or less.
- Acronym preserved: ESG = environmental, social, and governance.

### Key empirical sample and methodological pointers (preserved exactly)
- Sample for securities issuance analysis:
  - 6,449 firms total;
  - 5,446 issued equities at least once;
  - 3,722 issued bonds at least once;
  - Period: 2010:Q1–21:Q1.
- The measure of flows captures both flows and firm-specific exposures to flows. See Online Annex 3.3 for methodological details.

### Findings on issuance related to flows into sustainable funds
- Increased net inflows into sustainable funds result in:
  - A higher likelihood and an increased amount of bond issuance by green firms relative to less green firms.
  - An increased amount of equity issuance by green firms relative to less green firms, even though green firms issue equity somewhat less frequently.
- Definitions used in the analysis:
  - “Green” firms = firms in the 75th percentile of the ESG score, E score, transition-opportunity score, and negative carbon intensity.
  - “Less green” firms = firms in the 25th percentile of these scores.
- Notes:
  - Equity issuance may require a longer time to react to financing supply shocks and the analysis considers only seasoned equity offerings (initial public offerings are not considered).
  - Solid bars and circles indicate statistical significance at the 10 percent level.
  - See Online Annex 3.4 for methodology.
- Interpretation:
  - Sustainable funds have been boosting issuance of firms aligned with the funds’ sustainability objective.
  - Similar effects are not evident for transition-aligned variables such as the transition-opportunity score or carbon intensity, suggesting funds may lack scale or focus to foster issuance by firms supporting the transition.

### Abnormal returns
- Additional analysis finds flows into sustainable funds lead to a significant contemporaneous increase in abnormal returns for firms with a high ESG score and high environmental pillar scores (Online Annex 3.4).

### Exact quoted figure labels preserved
- Figure 3.8. Flows into Sustainable Funds Have Boosted Bond and Equity Issuance of Green Firms
  - Issuer-level greenness indicators: ESG score, E score, Transition-opportunity score, Carbon intensity
  - Outcome metrics: Probability of issuance; Amount of issuance (percent of total assets)

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### Impact of Climate-Related News on Fund Returns, Flows, and Scores

### Overall finding
- Past climate-related news has not had a systematic impact on investment fund returns and flows.

### Events and indices
- Relevant climate-related news identified by climate-related news indices back to 2010 from:
  - New York Times (two indices),
  - Wall Street Journal (index from Engle and others 2020),
  - Google News.
- Nine quarters over the sample period identified with heightened attention to climate change, including the Paris Agreement in 2015:Q4.

### Returns and flows
- Figure 3.9 findings (preserved labels and metrics):
  - 1. Difference in Impact of Climate-Related News on Quarterly Returns between High- and Low-Score Funds (Percent)
  - 2. Difference in Impact of Climate-Related News on Quarterly Flows between High- and Low-Score Funds (Percent of lagged total net assets)
- Specifics:
  - The most relevant climate-related news events show a relatively small impact on the quarterly return of a fund with a high transition-opportunity score relative to that of a fund with a low score.
  - Similar small effects for funds with high versus low carbon intensity.
  - Climate-related news has had a limited impact to date in terms of flows.
  - For the Paris Agreement (2015:Q4) the direction of effects aligns with priors (high-transition-opportunity-score funds and low-carbon-intensity funds benefit) but the size of the effect is small.
- Regression details preserved:
  - Results based on panel regressions of flows and returns on nine climate-related event dummies and their interaction with carbon intensity and the transition-opportunity score.
  - Controls: past returns and flows, logarithm of fund size, fund expense ratios, fund age, region-year and fund-type-year fixed effects.
  - Bars depict differential impact of a shock on funds at the 25th and 75th percentiles of carbon-intensity and transition-opportunity score distributions.
  - Several coefficients are insignificant (counts preserved as in note).

### Funds’ transition-related scores response
- Figure 3.10 findings:
  - 1. Effect of Climate-Related News on Funds’ Carbon Intensity (Percent of average carbon intensity)
  - 2. Effect of Climate-Related News on Funds’ Transition-Opportunity Score (Percent of average score)
- Both carbon-intensity and transition-opportunity scores declined slightly following the Paris Agreement in 2015:Q4, when intuitively effects should have been opposite.
- Regression details preserved: panel regressions of carbon-intensity and transition-opportunity scores on nine climate shock dummies; controls include past returns and flows, log fund size, expense ratios, fund age, region-year and fund-type-year fixed effects. For the Paris Agreement event, solid bars indicate significance at the 10 percent level or less.

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### Liquidity Buffers, Cash Holdings, and Transition-Related Scores

### Key empirical findings
- Fund portfolios with a higher transition-opportunity score are associated with lower cash buffers (Figure 3.11, panel 1, green bar), particularly if initial buffers exceed the sector median.
- Funds with higher carbon intensity also appear to hold less cash than those with lower carbon intensity (Figure 3.11, panel 1, blue bar).
- These cash-buffer effects are mainly present for funds with already-high cash buffers (above the median) — effects appear beyond a certain threshold (Figure 3.11, panel 2).

### Quantified example preserved exactly
- For example: a fund with a 2.4 percent cash buffer (which corresponds to the mean) will:
  - hold 13.5 basis points less cash if its transition-opportunity score increases by one standard deviation;
  - reduce its buffer by 7 basis points if its carbon-intensity score increases by one standard deviation.

### Regression and model controls (preserved)
- Results based on ordinary least squares and unconditional quantile regression models regressing cash and cash equivalent buffers on:
  - a dummy denoting whether a fund is labeled as sustainable;
  - transition-opportunity and carbon-intensity scores and their interactions with the sustainability label;
  - lagged flows;
  - logarithm of fund size;
  - fund management fees;
  - a dummy denoting exchange-traded funds;
  - the Chicago Board Options Exchange Volatility Index;
  - a term spread;
  - a credit risk spread;
  - a proxy for US interest levels;
  - a basket of major exchange rates versus the US dollar.
- Models include region-year and fund-type-year fixed effects. Solid bars indicate significance at the 10 percent level or less. See Online Annex 3.5 for methodological details.

### Cash buffer decile values (preserved exactly)
- Increasing size of cash buffers (cash buffer by decile, percent):
  - 1st: 0.13
  - 2nd: 0.14
  - 3rd: 0.40
  - 4th: 0.74
  - 5th: 1.16
  - 6th: 1.69
  - 7th: 2.40
  - 8th: 3.41
  - 9th: 5.25

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### Stability Implications of the Sustainable Fund Sector

### Findings on investor sensitivity and flows
- Sustainable funds attract investors who are less performance-sensitive and not too short-term-oriented, and thus may be less prone to large redemptions.
- Following lower returns, flows decline, on average, less for sustainable funds than for conventional funds (Figure 3.12, panel 1, far-left bar).
- The lower sensitivity of sustainable investors is more pronounced when funds are experiencing outflows or smaller inflows.
- Flows to sustainable funds appear to be more persistent than flows to conventional funds, especially for funds experiencing inflows above the median.

### Interpretation
- These results indicate the sustainable fund sector exhibits lower redemption risks and a more stable investor base.
- As a result, sustainable funds could be important from a financial stability perspective and act as a source of stable financing for green investments.

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### Conclusion and Policy Recommendations (verbatim structure and recommendations preserved)

- The sustainable investment fund sector can be an important driver of the transition to a green economy, supporting pro-transition corporate behavior through stewardship and potentially boosting investment expenditures of firms that could foster the transition.
- The sector remains small, and fund managers face several challenges in implementing investment strategies that support the transition, including:
  - data gaps;
  - risk of corporate greenwashing;
  - multiple disclosure standards;
  - lack of globally accepted taxonomies.
- To facilitate assessment of transition-related risks and opportunities and to prevent greenwashing and foster climate finance markets, policymakers should urgently seek convergence on a global climate information architecture. Such an architecture should include:
  - A harmonized and consistent set of climate-related disclosure standards. Progress is in sight in this area (IFRS 2021).
  - High-quality, reliable, and comparable data on climate-related metrics, including forward-looking metrics underpinned by mechanisms such as verification and audits to improve the quality of data. Initiatives are ongoing to fill these data gaps (FSB 2021; NGFS 2021a).
  - Globally agreed-upon principles for sustainable finance classifications (including climate taxonomies) to align investment flows with climate goals. Sustainable finance classifications need to be well defined and dynamic, and suitable for adoption across all country groups (advanced, emerging market, and developing economies). A decisive global effort is needed to move forward on this front.

*Source: CHAPTER 3 INVESTMENT FUNDS: FOSTERING THE TRANSITION TO A GREEN ECONOMY (figures and text excerpted from the chapter). International Monetary Fund | October 2021*

### 1. Flow Sensitivity to Lagged Returns

### ch3 - 1. Flow Sensitivity to Lagged Returns

### Flow-performance findings
- Flow sensitivity measure: "(Basis points, for 1 percentage point shock to lagged returns; flows are normalized by lagged total net assets)".
- Flow persistence measure: "(Basis points, for 1 percentage point shock to lagged flows; flows are normalized by lagged total net assets)".
- Key empirical observations:
  - "Flows to sustainable funds are less sensitive to past performance than flows to their conventional peers, especially in funds facing outflows."
  - "Flows are persistent for the entire sector, but more so for sustainable funds. This effect is more pronounced for funds facing inflows."
  - "Solid bars indicate significance at the 10 percent level or lower."
- Estimation details (note on methodology):
  - "Results are based on mean and unconditional quantile panel regressions of fund flows on a sustainability label dummy, lagged returns and flows, the interaction of these two variables with the sustainability dummy, the logarithm of fund size, fund expense ratio, fund age, and region-year and fund-type-year fixed effects."
  - Robustness: "See Online Annex 3.6 for additional robustness tests."
- Visual reference (figure context):
  - Figure 3.12: "Flow-Performance Relationship" comparing averages and increasing size of inflows (deciles); annotations include "Not significant" for some measures.

### Policy implications and recommendations
- Disclosure and verification:
  - "Efforts must continue to strengthen disclosures on how they promote sustainability and the transition, including through stewardship and capital allocation."
  - "This chapter’s findings clearly point to the importance of fund labels and sustainable finance classifications (including taxonomies) to attract inflows. However, proper regulatory oversight and verification mechanisms are essential to avoid greenwashing."
- Channeling savings toward transition:
  - Once the climate information architecture and regulatory oversight are established, policymakers "could also consider tools to channel savings toward transition-enhancing funds to complement other critical climate-change-mitigation policies, such as a carbon tax."
  - Example tool: "enhanced eligibility of climate-themed funds for favorable tax treatment in savings products (such as retirement plans or life insurance products)."
  - Example reform cited: "reform to Luxembourg’s “subscription tax” in 2021, which makes the rate of the annual subscription tax applied to investment funds a decreasing function of the share of their investments in sustainable assets, as defined in the EU Taxonomy Regulation."
  - Caution: "Additional research is needed to better understand the optimal design of such fiscal incentives."
- Retirement plan barriers:
  - "Regulatory and legal barriers to investing in sustainable funds through retirement plans could be removed."
  - U.S. legislative note: "legislation was introduced in May 2021 in the House of Representatives and the Senate that seeks to make 401(k) retirement plan sponsors more comfortable with sustainable investing (Hallez 2021)."
  - Empirical note: "In 2019, 3   percent of 401(k) plans had an environmental, social, and governance option, representing 0.1 percent of plan assets (Norton 2021)."
- Financial stability and resilience:
  - Although past transition shocks have not been a source of financial instability for the investment fund sector, "sudden and large shocks in the future could be disruptive, especially if structural vulnerabilities in the sector (such as liquidity mismatches) are not addressed."
  - Recommended policy actions:
    - Implement an orderly transition, using "scenario analysis and stress testing to assess the vulnerability of the investment fund sector (NGFS 2021b)."
    - "Reforms to improve the availability of liquidity and redemption management tools are warranted (FSB 2020c; IMF 2021b)."
  - Risk amplification: "Such large and sudden transition shocks are more likely to occur if efforts to address climate change are delayed, requiring abrupt and intense policy action to address the issue."

### Survey of asset managers (Box 3.1): integration of climate considerations
- Survey scope and participants:
  - "Includes responses of 26 portfolio managers and representatives from 11 asset management firms and one asset owner, with more than $16 trillion in combined assets under management, based in Asia, Europe, and the United States."
  - "See Online Annex 3.7 for details on the survey."
- Integration and approaches:
  - "Survey participants indicated that sustainability considerations—including climate change considerations—were fully or almost fully integrated into risk management practices in their companies."
  - Within sustainable investing (noted as "typically represents about 10 percent of assets under management"), approaches used:
    - Most common: "exclusionary criteria (for example, excluding certain types of fossil fuel companies)."
    - Least frequent: "positive screening" and "impact investing" — "Impact funds... relative size... typically small."
  - Tools and metrics used to implement strategies:
    - "All survey respondents said they relied on measures of the portfolio carbon footprint and frequently also on measures of expected emissions reduction, often calculated relative to a benchmark."
    - "About three-quarters of respondents noted that they use proprietary valuation models."
    - "Third-party environmental, social, and governance databases were more widely used as an input (82 percent of respondents)."
    - "Sector or industry classifications were often considered too crude a tool, with less than half of respondents incorporating them into their investment process."
    - Respondents "were often skeptical about the reliability and comparability of aggregate scores and preferred using raw metrics to generate their own scores."
- Implementation challenges:
  - "The overwhelming majority of respondents thought that lack of data, including the lack of forward-looking data, was a pressing issue to be addressed and that it represented a greater obstacle than the lack of commonly accepted disclosure standards and taxonomies."
  - "The lack of data was thought to be particularly acute in private markets."
- Perceived risks and opportunities:
  - Short- to medium-term risk ranking: "Across a list of five risk factors, policy risk—such as an increase in the price of carbon or a tightening of emissions regulations—was ranked highest by a majority of respondents, followed by physical risk."
  - Opportunities: "respondents considered technological change or changes to consumer preferences to be the most important drivers (66 percent of respondents)."
- Summary statements from the box:
  - "All surveyed asset managers integrate environmental, social, and governance considerations into their investment processes. Negative screening approaches are extremely common, while positive screening and impact investing are relatively less widespread."
  - "All asset managers analyze the carbon footprint of their investment products. A range of other tools is also very common."
  - "Data gaps were considered the most pressing issues that need to be addressed to facilitate transition-related investing."
  - "Emissions policy tightening was seen as the most important climate-related risk factor, but views varied widely across institutions and fund managers."

*Source: IMF staff calculations; data and survey results as reported in the chapter.*

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_Source: https://www.imf.org/-/media/files/publications/gfsr/2021/october/english/ch3.pdf_