5 stocks you’ll only find in ESG funds and why that spells opportunity

November 19, 2024 at 09:38 AM EST

5 stocks that you're likely to find only in ESG funds and why that matters

It’s not easy to sort ESG friendly stock opportunities from the crowd of companies in most large-cap funds, whether they are impact oriented or not. But analysts at Morningstar, using the company’s Sustainalytics tools, have found five stocks that ESG investors might be particularly interested in because they are not found anything but sustainable funds.

To find these unique stocks, Morningstar analysts looked at a breadth of large-cap funds, which primarily invest in companies with substantial market capitalizations, and found stocks that are common to both sustainable and traditional funds and those exclusively owned by ESG funds.

Big-picture goals are the same for both conventional and sustainable funds, whose managers aim to invest in stocks that perform well against their benchmark and mitigate risk, writes Morningstar’s Frances Aufderheide, on the company’s website. ESG funds add a sustainable lens, focusing on limiting ESG risk, seeking ESG opportunities or targeting specific themes.

Analysts first compiled the holdings of the oldest share classes of all U.S. sustainable large-cap funds. They then chose the top 200 stocks that are commonly owned for a theoretical portfolio and calculated what the average weight of each security would be if this portfolio held all 200 stocks. They did the same with traditional funds, defining the universe as the oldest share class of large-cap funds, excluding sustainable funds.

That allowed the analysts to find stocks that are overweight and unique to sustainable funds in the large-cap universe. In this case, “overweight” stocks are those that hold a greater weighting in sustainable funds compared with traditional. Securities that are held in sustainable funds, but not conventional ones, are considered “unique.”

At the end of all that, there were five stocks that were owned exclusively by large-cap sustainable funds in the industrials, materials, and health-care sectors: Ecolab ECL , Agilent Technologies , Xylem XYL , W.W. Granger GWW and Veralto VLTO .

Here’s a quick look at the Morningstar analysts comments on each.

Ecolab

“As the global leader in the cleaning and sanitation industry, Ecolab provides products that help its hospitality, foodservice, and life-sciences customers do laundry, wash dishes, maintain clean manufacturing environments, and ensure regulatory compliance. Ecolab’s largest growth driver over the next decade will be the water business, which generates the majority of revenue in the industrial segment. During the quarter, water revenue grew 3% versus the prior-year quarter on an organic basis, excluding currency movements,” said Seth Goldstein, Morningstar strategist.

Agilent

Agilent provides instruments, software and services for laboratories. “Agilent offers differentiated technology that is protected by various intangible assets, including patents, copyrights, and trademarks. This portfolio of intellectual property and its innovation prowess in chosen fields keep competitors from directly copying its technology,” said Julie Utterback, Morningstar senior equity analyst.

Xylem

“Xylem is one of the leading water technology companies in the world. Its extensive portfolio spans a wide range of equipment and solutions for the water industry. We think Xylem has carved a narrow moat primarily due to customer switching costs and secondarily due to intangible assets. Xylem’s large installed base of equipment generates recurring revenue,” said Krysztof Smalec, Morningstar equity analyst.

Grainger

“We’ve raised our fair value estimate for narrow-moat-rated Grainger by 12% to $660 per share as we’ve become more confident of the firm’s ability to maintain long-term operating margin above 14%. Even so, the current stock price remains well above our revised fair value estimate. Our confidence (of a narrow moat) is rooted in Grainger’s ability to fend off competitive pressures from both new and existing players in the maintenance, repair, and operations market,” said Brian Bernard, Morningstar senior director.

Veralto

Veralto provides technology solutions to improve the quality and reliability of water and product innovations through a suite of brands. “This tax-free spinoff is just the latest example of Danaher’s business pruning,” said Utterback.

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