Morgan Stanley
  • Institute for Sustainable Investing
  • Feb 29, 2024

Sustainable Funds Outperformed Peers in 2023

Sustainable funds returned to the long-term trend of outperformance in 2023, while assets under management continued to increase.

Sustainable funds outperformed their traditional peers across all major asset classes and regions in 2023, according to a new “Sustainable Reality” report1 from the Morgan Stanley Institute for Sustainable Investing. Overall, sustainable funds generated median returns of 12.6%, almost 50% ahead of the 8.6% returns of traditional funds, with outperformance coming mostly in the first half of the year. Investor demand also remained strong with assets under management up 15% from 2022 levels, reaching $3.4 trillion; sustainable funds now account for 7.2% of total global AUM.2 

“2023 saw sustainable funds return to their long-term trend of outperforming their traditional peers,” says Jessica Alsford, Morgan Stanley’s Chief Sustainability Officer and CEO of the Institute for Sustainable Investing. “This comes on the heels of our survey of individual investors, which found that a majority look for both competitive financial returns and sustainability in their investment strategies. Our new analysis shows this can be possible.” 

Institute analysis of Morningstar data found that investing a hypothetical $100 into a sustainable fund in December 2018 would be up 35% if it had achieved the median return for each of the past five years. For traditional funds, that investment would be up 25%. 

Sustainable Funds Outperformed Traditional Funds in 2023

Source: Morgan Stanley Institute for Sustainable Investing analysis of Morningstar data. Table shows data in basis points (bps), 10bps = 0.1%. The half-year figures for 2023 do not sum to the 12.6% FY2023 median return as 1H and 2H figures represent the medians of each half-year datasets, whereas the 12.6% FY23 figure is the median of the full-year dataset. The fund universe for this analysis includes closed-end funds, exchange-traded funds and open-end funds, taking the oldest share class, and excludes feeder funds, funds of funds and money market funds. In total, this analysis covered approximately 97,000 funds globally. Data as of February 9, 2024.

Sustainable Funds Outperform Across Asset Classes

Sustainable funds typically skew towards growth stocks (those that focus on long-term potential) and longer-duration bonds. In 2022, this was a disadvantage for sustainable fund returns, as turbulent market conditions meant that value stocks (prioritizing near-term cash flows) and shorter-duration fixed income saw the strongest performance. These broad market factors were much less important to sustainable fund returns in 2023, because the more stable macroeconomic environment meant less differentiation between returns for value vs. growth equities, or short vs. long duration fixed income. 

By asset class, sustainable equity funds performed best, with median returns of 16.7% for the full year, outpacing the 14.4% realized by traditional equity funds. Sustainable fixed-income funds saw median returns of 10% in 2023, while traditional fixed-income funds were up 6.4%.

Sustainable Funds Outperformed Across Asset Classes

Source: Morgan Stanley Institute for Sustainable Investing analysis of Morningstar data as of February 9, 2024. * Other includes multi-asset, property, commodities and alternative fund types.

The first half of the year accounted for most of the strong showing in 2023—both in terms of fund performance and growth in assets under management (AUM). Sustainable funds’ median return was almost 7% in the first half of the year (ahead of traditional funds’ 3.6%). They underperformed in September and October before rallying along with the broader market in November and December, leaving sustainable funds’ median return at 5.3% for the second half, modestly ahead of traditional funds at 4.5%. 

In terms of AUM, the first six months of the year powered annual growth, with roughly three-quarters of the $136 billion inflows in 2023 coming between January and June. Those inflows, up 4.7% compared to 2022 year-end AUM, outpaced the growth in traditional funds, which recorded only a 1.6% of full-year 2022 year-end AUM, or $610 billion.

Sustainable Funds' AUM was $3.4 Trillion in December 2023, 7.2% of Total AUM

Source: Morgan Stanley Institute for Sustainable Investing analysis of Morningstar data. Data as of February 9, 2024.

European Funds, Global Investment

A vast majority (87%) of all sustainable fund AUM is domiciled in Europe; 10% is in the Americas with 3% in all other regions of the world. But this does not mean that European assets are the only focus. Funds with a global investment universe account for more than two-fifths (42%) of sustainable AUM. Only 35% of sustainable AUM is in funds investing solely in Europe, while 13% is in funds investing only in the Americas. 

Sustainable funds domiciled in Europe saw inflows of $146 billion, or 5.8% of prior year-end AUM. By contrast, sustainable funds domiciled in North America had outflows of $13 billion (4.4% of prior year-end AUM). However, three-quarters of these outflows were driven by procedural changes at some funds. Funds investing in the Americas recorded inflows of 6.2% of prior year-end AUM.

Sector Exposures Played a Role in Sustainable Funds’ Outperformance

Sector exposure played a role in sustainable funds' performance, accounting for roughly half of the relative performance of sustainable funds compared to traditional peers in 2022 and 2023. In particular, in 2023, it appears that sustainable funds benefited by not having traditional equity funds’ increased exposure to the Energy and Financials sectors. 

Sustainable Equity Funds Are Relatively Overweight in Industrials, Technology and Health Care

Source: Morgan Stanley Institute for Sustainable Investing analysis of Morningstar data. Notes to right hand chart: positive values indicate that sustainable equity funds are relatively overweight a sector compared to traditional equity funds, and vice versa. Chart is shown in basis points (bps), 10bps = 0.1 percentage point. Labelled values are approximate. Data as of February 9, 2024.

Where did sustainable funds focus their investments? Technology is the largest sector for global sustainable funds but they are most overweight Industrials when comparing them to traditional funds. Europe funds skew the most toward Health Care compared with traditional funds, though Industrials was the largest sector in those portfolios. In the Asia Pacific region, sustainable equity funds were most overweight in Industrials and Health Care.

Sustainable funds investing in the Americas are overweight Technology, with that sector comprising 29% of holdings on average, vs. 23% for traditional funds. This is one of several factors that powered the Americas to outperform other regions, recording gains of 21.3% for the year, while Europe-focused funds were up 14.1% and global funds were up 12.3%.

Read the Full Sustainable Reality Report