For investors, two types of investment vehicles have become increasingly popular in recent years – socially responsible investing (SRI) and Environmental, Social and Governance (ESG) funds. While the two terms are often used interchangeably, SRI is typically committed to investing only in companies that seek to make the world a better place. ESG’s approach is more broad-based and is focused on protecting an investment portfolio from operational or reputational risk. ESG frameworks are associated with strict measurement and other risk parameters.
What are Sustainable Funds?
Sustainable funds, also known as socially responsible investing, have become increasingly popular in recent years. SRI refers to investment strategies that aim to generate financial returns while also having a positive social or environmental impact. SRI fund managers typically curate a basket of companies that meet their investors criteria. For example, the fund may include companies associated with positive environmental impact or an ethical supply chain. The funds may exclude certain companies based on moral issues such as those associated with the alcohol or tobacco industry.
What is ESG investing?
ESG investing is the practice of making investments in businesses that give environmental, social and governance factors first priority. These can include measures such as a company’s carbon footprint, diversity and inclusion policies, or transparency in business practices. The key difference between ESG and SRI investing is that these factors are measured and tracked to ensure that the company chosen by the fund (and investor) remains compliant. While in theory the strategy is positioned as investing for the greater good, it is, in actuality, a framework to help investors evaluate the risk level of a company’s environmental, social and governance practices. In some instances, ESG investors choose higher-scoring ESG companies because they believe this will reduce their overall portfolio risk, not necessarily to better the planet – although it may well be a by-product. Many investors choose ESG funds because they want to align their financial goals with their values and beliefs.
“And herein lies the core difference between an ESG portfolio and a truly sustainable portfolio – a positive, inclusive bias. ESG is about making portfolios “less bad.” A sustainable portfolio is about intentionally including companies that are making a positive difference in the world.” (Forbes 2022)
Why are sustainable funds and ESG investing important?
Investors want to ensure that the companies they’re investing in are engaging in sustainable and ethical business practices. An ESG fund is typically a framework to help investors evaluate the risk level of a company’s environmental, social and governance practices. ESG investors choose higher-scoring ESG companies because they believe this will reduce their overall portfolio risk, not necessarily to better the planet.
Both SRI and ESG investing can be effective approaches to sustainable investing, and which one is “better” depends on the investor’s goals and preferences. SRI may be more suitable for investors who prioritize social or environmental impact above financial returns, while ESG investing may be more appropriate for investors who want to integrate sustainability considerations into their investment decisions while still prioritizing financial returns. Ultimately, it is up to the individual investor to determine which approach aligns best with their values and investment objectives
What are some market trends in sustainable funds and ESG investing?
Sustainable investing overall took a big dip for the first time in 2022. There were several drivers behind this wave of criticism. The combination of the impact of Russia’s invasion of Ukraine, inflation and pockets of populism emerging in different parts of the world is shifting the macroeconomic and geopolitical context, which in turn impacts investors’ thinking.
Confusion in the market about terminology and understanding how investments are measured, have also contributed. ESG, as a set of measures, was initially introduced to incorporate this type of analysis alongside traditional financial factors. They were never meant to be the only measure of a company’s performance – rather they exist to add to the holistic understanding of risk and opportunities and long-term value outcomes.
For most leaders, ESG remains a top priority. This is not only because of a deep-rooted ethical or moral stance. Rather, it is because ESG risks are now one of the largest threats facing businesses, and they could have a significant impact on their long-term performance and profitability, including their ability to raise new capital. For example, too few companies are considering how climate change will impact their long term operations and viability. Although ESG funds may continue to experience difficulties in 2023, there is a general consensus that in light of increased environmental and energy security concerns, the demand for new ESG products will continue to outweigh supply.
What types of sustainable funds are available?
There are a number of different types of sustainable funds. For example:
- ESG Funds: These funds invest in companies that meet specific ESG criteria, such as those with strong records on sustainability, climate change, diversity, and human rights.
- Impact Funds: These funds invest in companies that generate measurable social and environmental impact alongside financial returns. Examples may include companies involved in renewable energy, clean water, and healthcare.
- Green Bonds: These are fixed-income securities issued by companies, governments, or organizations to finance projects with positive environmental outcomes, such as renewable energy and clean water infrastructure.
- Socially Responsible Funds: These funds invest in companies that meet specific social criteria, such as those with ethical business practices, fair labor standards, and support for human rights.
- Climate Change Funds: These funds invest in companies that are addressing climate change challenges through innovation, such as those involved in renewable energy, energy efficiency, and carbon reduction technologies.
- Sustainable Real Estate Funds: These funds invest in sustainable real estate projects that prioritize energy efficiency, sustainable materials, and eco-friendly practices.
- Faith-Based Funds: These funds invest in companies that align with specific religious beliefs and values, such as those with ethical business practices and support for social justice.
How can I invest in sustainable funds?
There is a vast and ever-growing universe of ESG assets available to retail investors. Investors can purchase these funds through a financial advisor, a brokerage account, or an online investment platform. At Austin Morris, we can guide you through the process and ensure your investments are aligned to both your financial – and personal – goals and values. We provide access to a vast universe of ESG assets and investments through our advanced network of providers across the globe. We create bespoke portfolios that are tilted to your preferences, values and investment goals and your personal mandates. Contact your broker.