Understanding ESG Investing

In the world of investment, acronyms are everywhere. More frustratingly, they seem to change with the tides.

The abbreviation of the moment is definitely ESG, but what does it represent and why could it be relevant to your portfolio?

ESG stands for ‘Ethical, Social and Governance.’ It is a way of indicating an ethical or sustainable strategy for a company or investment. You might be more familiar with the term Corporate Social Responsibility, which ESG seeks to replace by establishing a measurable framework of how to rank the sustainability of various organisations.

Over the past decade, demand for responsible and sustainable investments has grown massively. As a result, more ESG options are becoming available to the retail investor every day. Whilst we know that people in general have become more aware of issues such as social injustice, climate change and environmental impact in recent years, not every reason for the ESG boom is purely altruistic.

During the recent volatility in the markets, companies and funds with an ESG focus fared very well compared to the rest of the market, offering a financial incentive for objective investors to consider sustainability as a key decision point when building their portfolio. Whatever your personal views or politics, it is becoming increasingly clear that ESG assets should factor into your diversification strategy.

Stepping beyond the clear-cut numbers and the acronym, what is ESG in real terms? Well, it’s still not easily defined, and although there are a number of accepted matrices used by different NGOs and investment groups, they vary in the metrics that they measure and how they are applied. The most commonly accepted tool is created by MSCI and is based on the UN’s 17 Sustainable Development Goals (SDGs). This is a good way of gauging the ESG credentials of major organisations. However, when we talk about investment funds, we may need to dig a little deeper. As things stand, a fund can call itself ‘ethical’ or ‘sustainable’ with very little oversight, based on how the management describe their own strategy and portfolio. If the fund’s definition of ethical differs from yours, you may find that you are unknowingly investing in an industry or sector that you would prefer not to support. For this reason, it’s important to look at the fund strategy and mission statement, rather than just the title or grouping. Some funds will select investments in a ‘sector-positive’ manner, meaning that they pick assets based on what that asset aims to achieve, produce or create. Others will work on a ‘negative screening’ process, which is to say that they will actively discount companies or assets that meet negative ESG criteria or fall short of minimum sustainability requirements. If this all sounds a bit complicated, make sure you ask your financial advisor for some guidance on how to align your investments with your personal views.

There is a UN initiative to promote the SDGs in the corporate sector, which after 20 years is just now gaining traction in the investment world. To date, nearly 11,000 companies across 156 countries have signed up to the voluntary UN Global Compact, committing to advance the goals of creating a more responsible corporate society. However, just being a signatory doesn’t necessarily guarantee that ethical principals are being followed at all times by the firm in question, and the level of participation in the Compact is entirely up to the company itself. The UNGC is a great start, but not an absolute guarantee of ESG credentials.

Overall, we at Extended Investments Limited are committed to promoting ESG investment wherever possible and we are very confident that sustainability will continue to grow as an increasingly essential part of every investor’s decision-making process and portfolio allocation.

If you have any questions about sustainable investment, ESG assets or how to check whether your money is working towards your financial goals in alignment with your ethical stance, speak to your independent financial advisor or contact us directly at info@extinvestments.com for more information.