Does investing ethically affect returns?
As the number of environmental challenges we face continues to rise, increasing numbers of investors are enquiring about the social and environmental impact of companies within the securities they are investing in. Asset managers are responding to ethical concerns as this once ‘niche’ area is now at the forefront of many investor's minds, with corporate core values now a deciding criteria for many to determine whether funds are a suitable investment or not.
Sustainability is now vital to most companies business strategies, and those making changes are reaping the financial benefits of responsible practices. Investors looking for value are increasingly assessing a company’s sustainability policies attempting to combine their ethical, ecological and social beliefs with their economic needs, more so as it is widely believed to improve risk-adjusted returns.
Enhanced reporting and access to data make it easier for investors to make informed decisions. Funds with environmental, social and governance (ESG) and socially responsible investing (SRI) scores can now simplify evaluating if your personal values can match your investment goals.
ESG investments cover:
Environmental - includes pollution, climatic influences and the use of natural resources.
Social - covers such things as workforce and labour concerns and security of data.
Governance - encapsulates corporate issues, the quality and ethical stance of the board and the effectiveness of how their beliefs are ingrained throughout the organisation they run.
Whatever your reason for investing sustainably, the three principal ways of doing so are by:
Integration - Integrating environmental, social and corporate governance considerations into your investment portfolio to reduce your risk and hopefully, improve returns.
Exclusion – Excluding industries or companies from your portfolio that might not align your values such as tobacco companies, weapons producers or creators of heavy emissions.
Impact - Investing to generate a positive environmental and social impact, along with financial returns.
This innovative and exciting area of investment is still gathering momentum, however, the real impact of including ESG investments is still difficult to conclude. Sustainable indices have a relatively short history with one of the first, the Domini 400 Social Index (now the MSCI KLD 400 Social Index), launched as recently as May 1990.
Historical data is difficult to collate as not all companies acknowledged the importance of sustainability in the 1990's. Since then, the growing importance of this sector has led to other indices being established, including the The Dow Jones Sustainability Index and FTSE4Good launched in 2001 and 1999.
Is there a sacrifice for investing ethically?
Ultimately, the question all investors ask is if returns are sacrificed for investing ethically? On the contrary. This ‘niche’ sector is now mainstream and despite historical data lacking quality, back-tested research from over 2000 independent studies shows that returns at least matched or outperformed their traditional investment counterparts.
Furthermore, researched funds with higher ESG characteristics were deemed more robust during times of uncertainty, also highlighting that those with the lowest ESG scores are 10% to 15% more volatile than those with the highest scores.**
ESG focused firms may also offer more longevity for investors as we near the end of economic cycles, and with improved cash management, healthier balance sheets, limited reputational risk and higher levels of transparency, also provide some equity stabilising during market downturns.
How do ESG and conventional investments compare?
The information below compares traditional equity benchmarks and their ESG-centric peers back-tested between 2012–2018, with the majority of criteria positive using considerably less stock participants.
From oil producers to fund managers, corporate philosophy is definitely shifting as the financial and social risks of not taking ESG responsibilities seriously are too great.
Ranges of ESG screened and SRI ETF’s have ongoing charges as low as 0.07% further making this proposition more attractive.
If you would like to learn more about low-cost, ESG investing and take part in this exciting area of investment, get in touch today and we’ll help you invest in a sustainable future.
** Source: AQR 2017 paper Assessing Risk Through Environmental, Social and Governance Exposures.
The information contained in this article is provided for informational purposes only and is not intended to substitute formal tax or financial planning advice. While we make reasonable efforts to make sure the content of the article is correct and up to date we do not assume any responsibility for any errors or omissions. Past performance is not a guarantee of future returns. Investment values rise and fall and you could get back less than you invested.