Introducing ESG investing for the investor seeking to combine social impact with returns.
What is ESG Investing?
Environment, Social, and Governance (ESG) investing seeks to measure the sustainability and ethical impact of an investment in a business or company. ESG is an inclusionary investment approach focused on finding best in class companies that are responsive to environmental issues, are leaders in improving workplace equality, are actively benefiting their communities, and conduct business in a responsible manner, including upholding universal human rights.
ESG investing evolved from Socially Responsible Investing (SRI), a values-based investment strategy that seeks to achieve both financial return and social good. SRI is not new and traces its history through faith-based organizations back to the 18th century. One example was the anti-Apartheid Movement of the 1980s where church groups pressured U.S. pension funds to divest from businesses in the Republic of South Africa.
Early SRI strategies were generally exclusionary, meaning they screened out the stocks of U.S. and global companies involved in potentially harmful products and services such as tobacco, firearms, gambling, nuclear power, and military contracting.
Today’s ESG investment options offer significantly broader possibilities for the investor to align their investments with their values and achieve an impact toward the greater good. For example, in an ESG portfolio, you might invest in companies that promote the:
Air and water pollution
Audit committee structure
How is an ESG portfolio constructed?
ESG investing encompasses two dimensions in the portfolio construction process. First, like a conventional portfolio management process, we employ an open architecture approach, which means we search out the best in class mutual funds within each stock or bond category for use in our portfolios. This first step is supplemented with a second screening process across just the sustainable funds universe. Some of these mutual fund families see their corporate mission as 100% dedicated to sustainable investing only. Historically, they dedicate significant resources as leaders in advocacy for positive change with their portfolio companies. Other sustainable fund families include the large conventional mutual fund families which are either converting some existing mutual funds to ESG or adding dedicated ESG funds to their lineups. Our investment discipline is focused on selecting long-term top-performing funds as measured against both their benchmarks and their peer group performance. At the same time, we pay careful attention to their ESG discipline favoring funds with 4 and 5 Morningstar® Sustainability Ratings.
How is the Impact of an ESG Investment Strategy measured?
ESG Investors want to know how their investments are making a difference in the world. We believe that educating our clients about the ESG impact on the companies in their portfolios is an especially important part of our client relationship. The specific impact story happens through advocacy efforts initiated or supported by the mutual fund companies that we use in our portfolio construction process. Most of the traditional SRI mutual fund companies we follow have well-developed communications and investor relations programs to share their advocacy success, which we in turn share with our clients as part of our portfolio review process.
How has ESG Investing Grown in prominence?
ESG investing historically has been broadly accepted at both the institutional and retail levels across Europe. In the U.S. we have seen dramatic growth in retail demand for sustainable investments over the past four years. As Morningstar® reported in their Sustainable Funds U.S Landscape Report for 2019, “The sustainable funds universe grew to 303 mutual funds and ETFs in 2019. Another 564 conventional funds now say they ‘consider’ ESG factors when investing. Equally important, investor funds flowing into sustainable funds in the U.S. increased fourfold in 2019 totaling $21.4 billion.”
Morningstar® also reported that “sustainable funds outperformed their conventional peers in 2019, with 35% finishing in the top quartile of their Morningstar® categories and 66% in the top half.”
At Harvest Wealth Management, we believe the dramatic growth in demand for ESG strategies is based on increasing investor awareness and concern about environmental and social issues. Concurrently, as the demand for ESG investment strategies has risen among our clients, we see these strategies as a core part of our investment product offerings.
Investments are subject to risk, including the loss of principal. Because investment return and principal value fluctuate, shares may be worth more or less than their original value. An investment's socially responsible focus may limit the investment options available to the investment and may result in lower returns than those from investments not subject to such investment considerations.