The news was dominated recently by the COP26 meeting in Glasgow and the environmental issues affecting the planet and our daily lives. It came at a time when many of us were already thinking about what changes we can make to play our part in improving the situation. The topic of ‘ESG investing’ – Environmental, Social, Governance – was highlighted over the fortnight and it is something many investors are keen to explore.
The November ‘26th Conference of the Parties’ was a global United Nations summit about climate change and how countries can bring it under control. Large companies also need to play their part to reduce their impact on the environment, and this is where investors can be selective over which companies to buy shares in.
Interest in ESG investment has been growing over recent years. Investors are placing greater emphasis on the environmental and social impact of their investments, wanting to make sure the firms benefiting from their capital do not contribute to problems like climate change, inequality etc. They are increasingly seeking to manage exposure to ESG factors, while generating sustainable long-term returns – responsible investing and performance can be complementary.
This type of responsible investing prioritises financial returns alongside a company’s impact on the environment, its stakeholders and society. Here are some simple definitions:
Environmental – The impact of a company’s activities on the environment: carbon footprint, greenhouse gas emissions, renewable energy usage, sustainable supply chains etc. Positive outcomes include managing resources and executing environmental reporting/disclosure, or avoiding/minimising environmental liabilities.
Social – A company’s impact on its employees, customers, consumers, suppliers and the local community: how employees are treated, racial diversity, LGBTQ+ equality, inclusion programmes, etc. Positive outcomes include increasing health, productivity, and morale, or reducing negative outcomes such as high turnover and absenteeism.
Governance – The way companies are run: how does the management drive positive change? What are its business ethics? Positive outcomes include aligning interests of shareowners and management, improving diversity and accountability, and avoiding unpleasant financial surprises such as excessive executive remuneration.
In summary, ESG investing considers how a company serves its staff, communities, customers, stakeholders and the environment.
These days, most public companies and many private ones are evaluated and rated on their ESG performance by various third-party providers of reports and ratings. These include Bloomberg, S&P Dow Jones Indices and MSCI.
Institutional investors, asset managers, financial institutions and other stakeholders are increasingly relying on these reports and ratings to assess and measure companies’ ESG performance compared to peers.
Investing responsibly does not mean you have to accept lower returns.
ESG investing is building up a good track record, with noteworthy performance over the pandemic. During the market uncertainty, many companies with strong ESG track records showed lower volatility than others and investors turned to ESG for increased resiliency. According to US financial services firm Morningstar, the last quarter of 2020 saw record sales of $152 billion and total assets invested worldwide reached $1.6 trillion.
Analysis by Morningstar found that, over a decade, 80% of equity funds investing in sustainability outperform traditional funds. ESG funds also show longevity – 77% of ESG funds that existed 10 years ago survived, compared to 46% of traditional funds.
You do not need to spend hours researching a company’s ESG track record, scores and share price with other companies to try and work out which ones to invest in.
As with other capital investments, you can buy funds which invest in highly-rated companies. This also reduces risk by providing much more diversification.
Apply the same investment principles with ESG investing as with all other capital investments:
1. Establish your objectives and time horizon.
2. Obtain an objective analysis of your appetite for risk.
3. Have a mix of assets and sectors in your portfolio.
4. When considering a new investment, analyse how it fits in with the rest of your portfolio and impacts its risk weighting.
5. Conduct annual reviews.
You can choose to use a financial advisory company that incorporates responsible investing within its advisory services. Some companies now look at ESG considerations, as well as traditional assessments, as a part of the overall investment considerations when assessing suitability of investments for clients.
So, responsible investing does not have to involve more work on your part, and you can invest as you normally would, without compromising returns or your risk weightings – but with the difference being which companies benefit from your investment capital. You don’t need to focus all your portfolio on ESG funds – indeed, you need a good spread of assets to reduce risk – but it is one step you can take to help protect our environment and society.
All advice received from Blevins Franks is personalised and provided in writing. This article, however, should not be construed as providing any personalised investment advice. The value of investments can fall as well as rise, as can the income arising from them. Past performance should not be seen as an indication of future performance.
By Dan Henderson
Dan Henderson is a Partner of Blevins Franks in Portugal. A highly experienced financial adviser, he holds the Diploma in Financial Planning and advanced qualifications in pensions and investment planning from the Chartered Insurance Institute (CII). | www.blevinsfranks.com