What Investors Need to Know About ESG Investing (Environment, Social & Governance)
If you’re socially conscious and want to understand how your investments may be able to reflect your values, read further to learn more about ESG investing.
ESG Investing BreakdownESG investing is an investment strategy that examines the environmental, social and governance issues and impacts of investment decisions, with a preference for supporting a company with low-risk ESG policies. What is considered ESG is subjective, so there is no single way to determine ESG companies, as various ESG factors can have different performance measures or standards.
How the company impacts the environment through factors such as:
- Carbon footprint
- Greenhouse gases
- Climate change policies
- Renewable energy usage
- Employee incentives promoting carpooling, public transportation, bicycle commuting, etc.
How the company treats people inside and outside of the company. Examples include:
- Employee safety policies and sexual harassment prevention
- Employee engagement and turnover rate
- Diversity and inclusion practices
- Employee compensation
- Consumer protection activity
How leadership runs and leads the company, which involves aspects such as:
- Ethical practices
- Diversity of Board and Management team
- Lobbying efforts
- Political contributions
- Executive compensation, bonuses and perks
So, if you value reducing greenhouse gases, you might partner with your Wealth Advisor to find an investment option that takes a proactive approach to reducing greenhouse gases. You could also focus on investment options using renewable energies that create less pollution or invest in those that practice and fight for sustainable behaviors, such as enacting no deforestation policies or defending animal welfare.
You can tailor ESG investing to your values, financial situation and goals. So, look for as many or as few ESG factors as you’d like in potential investment options to help choose which is right for you.
Potential Benefits and RisksAs with all types of investments, there are benefits and risks with ESG investing.
Those who invest in ESG-specific companies align their values and make more conscious decisions and are thus more likely to stick with their investment strategy long-term.
Better Working Environments
By holding companies accountable to ESG factors, investors can have a hand in making working environments safer and more inclusive.
The products offering ESG strategies may invest in securities or industry sectors that underperform the market as a whole or underperform other strategies screened for sustainable investing standards. Past performance is not a guarantee of future results, so it’s important not to make a decision based on how ESG has performed in the past.
Lack of Universal ESG Standards
While there are many independent organizations dedicated to measuring ESG performance, there are no agreed-upon standards. This creates inconsistencies in ESG portfolios and funds.
Companies Could Stop Reporting on ESG Issues
There is no requirement for companies to report on ESG-related measures. Therefore, companies could stop voluntarily reporting ESG-related data. Companies could also change their business practices and shift away from a focus on ESG.
How Does it Fit within My Portfolio?ESG investing can be another way to diversify your investment portfolio, and it’s becoming increasingly more available. However, because ESG investing is relatively new, it’s not common in a 401(k) quite yet, though you can access it through IRAs and brokerage accounts via mutual funds and ETFs.
First, consider how much time you are willing to dedicate to ESG investing and what percentage of your overall portfolio or investments it should be. While you can invest in individual stocks, it does require more of a time commitment to do the necessary research. Alternatively, you could consider investing in ESG-focused ETFs or mutual funds. Keep in mind each ETF or mutual fund issuer sets their own standards for what is considered ESG. Those companies should describe their philosophies and methodologies in the product materials.
Also, think about how you want to approach ESG investing. For example, what companies are making an active effort to limit their negative impact or provide benefit in a way that reflects your social values?
An organization’s performance against ESG issues helps stakeholders make key decisions, and there are many tools and third-party resources available to measure or report on ESG performance. These resources can help companies track performance in a range of areas including governance, climate-related risks and opportunities, emissions, resource management and many others. It’s important you understand how these organizations define and measure ESG.
We recommend finding a financial advisor who takes a high-level look at your long-term financial goals and can help you identify how ESG investing may be able to fit your financial situation. Your advisor can help you manage your investment strategy to meet your unique goals as part of your broader financial plan, if ESG investing is something that is important to you.
Is ESG Investing Right for Me?ESG investing can be a unique part of your investment strategy, helping you support causes you care about while still planning for your financial future. It’s important to consider all the potential benefits and risks of ESG investing to determine if it’s right for you.
At Wealth Management by CommunityAmerica, what matters to you, matters to us. Our team is here to help you create a financial plan that both matches your values and aligns with your financial goals. If you have questions about ESG investing, reach out to one of our Wealth Advisors here.