ESG Investing — Is It Worth It?

ESG Investing (Environmental, Social & Governance) is a hot topic in the investment world, as more investors are looking to put their money with sustainable companies or those whose efforts are making a positive impact in our global community. 

• What is ESG Investing?

• ESG Investing & Returns 

• Is ESG for me? 

What is ESG Investing? 

A short and sweet answer can be taken from Investopedia:

Environmental, social and corporate governance (ESG) investing focuses on companies that support environmental protection, social justice, and ethical management practices. 

Generally, whilst ESG investors are seeking returns, they are less focused on maximising profits and instead on how the companies in which they are seeking gains are aligned with their own ethical framework.

The trends within ESG can be broken down as follows: 

Environment — green companies with a focus on natural resources and how their operations affect the environment, or how they act as “stewards of the natural or physical environment”

Social — focusing on factors that arise in the relations between a company and the people/institutions outside of it, and how these societal factors affect the potential returns 

Governance — factors of decision-making, from policymaking to rights & responsibilities among those involved in companies 

Not just about investing ethically, ESG fits under the sustainable investing umbrella term and seeks not only long-term positive impacts on the wider community & environment but also adequate returns for investors. 

“ESG is not just about ethics, values or screening. It is about how one taps into this wider pool of information to integrate that along with financial analysis to really understand the vulnerabilities to businesses — the risks but also the opportunities” (Julie Moret, global head of ESG at Franklin Templeton Investments)

For example, you may find ESG funds have oil and gas companies within them, which might at first seem odd — yet, remember that ESG is not just “Environment” but a part of the “Social” and “Governance” areas as a whole. ESG focus attempts to make companies more sustainable and transparent all-round, so simply excluding them based on one area will not promote growth. 

“Instead of taking the politically expedient and easy route of publicly removing these stocks from portfolios, advocate for more transparency and more focus on Social and Governance aspects.” (Patrick Long)

In essence, ESG investing focuses on improving the intrinsic value of companies as a whole, which is why investors have and are looking to these types of investments for their long-term portfolios. 

ESG Investing and Returns 

ESG investing has been associated with achieving lower returns for its investors. However, there has previously been limited data on these strategies due to their shorter track records and a wide variety of approaches. Now, data has revealed that ESG funds have in fact been drivers of outperformance. 

Morningstar data has shown that 745 Europe-based sustainable funds have triumphed over its non-ESG peers over one, three, five & ten years.

“ESG factors are not just ‘nice to have’ but drivers of outperformance…It is both right and smart to exclude certain business practices in violation of well-recognised conventions or with inherently high risk and negative impact.” (Jan Erik Saugestad, chief executive of Storebrand Asset Management)

The outlook for sustainable funds and a focus on ESG looks promising, especially in 200 funds and beyond. Whilst a few negative myths surrounding ESG have kept investors doubtful, we are now seeing the data to back the claims that these funds can provide superior long-term gains.

As ESG has become more popular in its own right as a topic, we must now look at the risk/return trade-off investing in these companies as large amounts of cash are being put into these funds.

Morningstar’s in-depth analysis of ESG companies revealed that in general, investors are not compromising on returns by investing in ESG companies. It also found that ESG style investing is distinct from other styles of investing, offering a unique position in overall portfolio construction and subsequent risk management. 

Is ESG for me?

In short, ESG investing is a viable way to reduce portfolio risk, generate strong long-term gains and make you feel good about yourself along the way! Of course, due diligence on any fund choice is paramount to choosing it for a portfolio and ESG funds should be screened with the same level of scrutiny as any other investment.

Young investors may be particularly interested in ESG funds; data is showing that positive long-term trends can be anticipated alongside strong fundamentals. 

ESG isn’t just a “fad” —  it is a product of a global shift and human sentiment to achieving sustainability that isn’t exclusive to the investing sphere, but becoming ingrained in our daily lives and progressing year-by-year.