ESG—or Environmental, Social, and Governance—is attracting investors who want to build up their ESG portfolios. Environmental, social and governance investing is a way to build a more ethical portfolio, and it's easier than you might think.
ESG investing is all about influencing a positive change in society, and investors want to be a part of that change. Key trends like climate change, social unrest, and the COVID-19 pandemic have made ESG investing a hot commodity. According to the US SIF Foundation’s 2020 trends report, U.S. assets under management using ESG strategies grew 42% to $17.1 trillion at the beginning of 2020.
What is ESG Investing?
ESG investing is a strategy you can use to put your money to work with companies that strive to make a positive impact on the world. ESG investing relies on independent ratings that help you assess a company’s behavior and policies when it comes to sustainability.
How does ESG investing work?
When looking to invest in a company, most ESG investors want to put money where companies score highly on environmental and societal responsibility scales. These scores are determined by third-party groups such as Bloomberg, S&P Dow Jones Indices, and Refinitiv and rate these companies on their implementation of ESG best practices and programs.
The scores generally follow a 100-point scale and provide a clear and handy metric for comparing different investments. The higher the score, the better. It means a company is fulfilling different ESG criteria.
While the factors assessed could vary by company, ESG rating groups normally review things like annual reports, corporate sustainability measures, resource/employee/financial management, and board structure.
The three criteria used to evaluate companies for ESG investing include:
Environment – What kind of impact does a company have on the environment? (ex: carbon footprint)
Social – How does the company improve its social impact, both within the company and in the broader community? (ex: diversity & inclusion)
Corporate Governance – How does the company’s board and management drive positive change? (ex: executive pay)
Why should you care about ESG investing?
Aside from putting some good out in the society—fighting climate change and social injustice—ESG investments have been found to deliver similar returns as traditional investments, with potentially less risk. A strong ESG investment strategy can also offer higher returns.
A 2019 white paper produced by the Morgan Stanley Institute for Sustainable Investing compared the performance of sustainable funds with traditional funds and found that from 2004 to 2018, the total returns of sustainable mutual and exchange-traded funds were similar to those of traditional funds. Other studies have also found that ESG investments can outperform conventional ones.
Monitoring ESG Compliance
ESG investing is becoming more appealing to investors looking for a dependable and rewarding investment option. For companies looking to elevate their business, monitoring your ESG compliance could be a great start. Ways to effectively track ESG compliance include:
Set measurable goals
Identify suppliers and properly vet and onboard them, including monitoring them for their sustainability metrics
Evaluate performance / metrics against ESG industry standards
Use tools or technology to track performance
Report ESG performance
Map out ways to improve
Investor interest in how companies are managing these risks and opportunities is strong and growing.