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Sustainable and Responsible Investing

This is a great time for investors who are interested in socially screened funds.

While we’ve had some form of socially responsible investing available for decades, in the early days an investor’s options were often limited to a few funds with fairly high costs and disappointing performance. The earliest funds would screen out alcohol, tobacco and gambling stocks. Corporate scandals and controversies created an interest in corporate governance, and later the idea of sustainability was incorporated. The current standard includes both negative and positive screening, and is commonly called “ESG Investing,” for Environmental, Social and Governance Factors, which have been incorporated in a United Nations Initiative called Principles for Responsible Investment.

Companies earn high ESG scores for their behavior in three major areas: Environmental factors, which includes sustainable practices, climate change and carbon impact, water use and conservation efforts. Social factors examine how a corporation treats its employees, suppliers, customers and the community in which they reside. Workplace safety and fair pay policies would be social factors. Governance looks at who’s on the board of directors, executive pay, audits and internal controls.

What does an investor have to give up to have a portfolio that’s more sustainable and aligned with their personal values? Increasingly, it appears that we do not have to sacrifice performance in order to focus our investments on more sustainable corporate models.

Here are some reasons why:

• As ESG scoring has become more systematic and index-based, the internal costs of owning ESG funds has come down dramatically in the last several years.
• Sustainable practices are good for business in the long term. Environmental cleanups, lawsuits and corporate scandals are expensive, and can bring down a company’s stock price.
• ESG principles can illuminate corporate problems that are not revealed on the balance sheet, such as the practices which contributed to the BP oil spill and Volkswagen emissions scandal.

The ESG marketplace can be a bit bewildering, with new offerings being introduced at a rapid pace. There are many different types of funds, both mutual funds and exchange-traded funds, with some focused on low carbon, solar power, alternative energy etc. Many funds have a more general approach, taking a familiar index such as the S&P500, eliminating certain types of businesses and including the remaining firms with the best ESG scores. It’s important to understand the specific rules that govern any investment you’re considering.

Using ESG investments provides average investors with a powerful tool to influence corporate behavior. The recent interest in ESG, especially among younger investors, has created demand for new ESG investment vehicles, which encourages companies to improve their ESG scores because they want to be included on more investment platforms. If more investor dollars are going into those funds which prioritize companies that excel at sustainability, safety and corporate citizenship, corporations will find further incentive to improve their practices in order to find more buyers for their stock, and increasingly for their bonds as well.

If you’re curious about ESG investing, let’s set up a time to discuss it.