ESG isn’t just about investing. Businesses often try to ensure that ESG considerations inform their broader culture and operations – not just their investment approach.
However, if investment is to be focused on, there is a range of ways in which ESG factors can influence investment strategies:
In a traditional investment approach, the investor’s objective is simply to meet their financial goals. ESG factors don’t play a part.
However, this perception is becoming increasingly contested. Over a long enough time horizon, ESG risk often is investment risk. For example, if ecological collapse in a particular sector or region will damage a company’s ability to do business, there is a clear overlap between ESG risk and investment risk.
In an exclusion-based approach, an investor chooses not to invest in financial products that conflict with their values. For example, an investor may exclude fossil fuel providers from their ‘investible universe’.
For investors wishing to go a step further on ESG, it’s possible to integrate it more deeply into an investment approach. This may involve moving beyond simple exclusions and instead actively identifying and investing in companies that are industry leaders on ESG.
Thematic investing involves investing around specific ‘themes’. For example, an investor who is particularly concerned by deforestation may choose to specifically invest in companies that are opposed to this practise.
Impact investing means investing with the goal of achieving specific, tangible outcomes, rather than simply a general commitment to ESG principles.
How is ESG changing the investing landscape?
- In 2020 €1.2 trillion in European assets was invested in ESG strategies.
- Sustainable equity funds ballooned by 197% from 2016 to 2021, while sustainable bond funds grew 181% in that time.
Europe is leading regulatory reforms designed to make sustainability mainstream and fight greenwashing, which refers to the practise of organisations creating misleadingly positive perceptions of their ESG credentials.
Despite ESG’s growth in prominence, difficulties still exist around data gathering in this area. A lack of comprehensive, detailed and standardised information on firms’ ESG profiles enables greenwashing, allowing companies to establish inaccurate representations of their ESG credentials as investors and regulators lack the information to properly hold them to account.
This issue can potentially be addressed through regulatory reforms that require companies to disclose more information about their ESG-related policies and processes, and any financial products they offer that relate to ESG. Greater transparency enables investors to make more informed investment decisions.
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