ESG investing: everything you need to know about it

Heard of ESG investing?

Is this an investment strategy you’d like to get into?

Well, we’re going to go through all the ins and outs of ESG and answer all your burning questions about this type of investment strategy.

Our article will give you all the basics and a foundation from which you can further your exploration.

From here you can research different companies to assess their ESG status and gather information as to their suitability as an investment strategy for you.

Let’s swing into action…

Overview:

• What is ESG investing?
• What’s the difference between ESG and socially responsible investing?
• What does the ‘environmental’ in ESG investing mean?
• What does the ‘social’ in ESG investing mean?
• What does ‘governance’ in ESG investing mean?
• How does ESG investing work?
• ESG Criteria

What is ESG investing?

ESG (Environmental Social and Governance) investing is the practice of considering a company’s environmental impact, social responsibility, and governance practices when making investment decisions.

This sounds very similar to socially responsible investing, doesn’t it?

What’s the difference between ESG and socially responsible investing?

Overall, while ESG and socially responsible investing (SRI) share some similarities, they are not the same thing.

The similarity between ESG and socially responsible investing (SRI) lies in their consideration of a company’s impact on society and the environment when making investment decisions.

However, ESG is more comprehensive and focuses on both exclusion and positive consideration, while SRI is primarily focused on exclusion. 

Let’s outline some of the the key differences between the two approaches to investing:

• SRI is an investment approach that seeks to exclude companies that are involved in certain controversial industries, such as tobacco or weapons manufacturing, or companies with poor labour practice, or human rights records, from the investment portfolio.
• ESG, goes beyond simply excluding companies. It will also include the positive consideration of companies that have strong environmental, social and governance practices.

As an ESG investor, you might look for companies that are working to develop renewable energy sources, companies fighting climate change, companies that have good governance practices or companies that have a positive impact on the community.

When you invest in ESG, you are more focused on the company’s long-term financial performance. However, SRI investing is more focused on excluding companies that do not align with certain social or ethical criteria.

Our next step is to investigate in more detail what each of the elements in ESG involves.

What does the ‘environmental’ in ESG investing mean?

In the context of Environmental Social and Governance investing, the “environmental” aspect refers to the consideration of a company’s impact on the environment when making investment decisions.

Your ultimate goal when considering these environmental factors is to identify companies that are well-positioned to perform financially over the long-term, while also having a positive impact on the environment.

So, how do you do this?

What are the ESG factors that mitigate environmental risks?

• Carbon emissions: 

You may look at a company’s greenhouse gas emissions and its efforts to reduce them.

• Energy efficiency: 

You can take into account a company’s energy consumption and their efforts to improve energy efficiency.

• Resource management: 

You may look at how a company manages its natural resources, such as water and land, and its efforts towards waste management and minimising pollution.

• Environmental regulations: 

You may consider how compliant the company is with environmental regulations and its history of environmental violations.

• Environmental initiatives: 

This is a review of a company’s environmental initiatives, such as its renewable energy projects or conservation efforts.

What does the ‘social’ in ESG investing mean?

In the context of Environmental, Social, and Governance investing, the “social” aspect refers to the consideration of a company’s impact on society when making investment decisions.

Your ultimate investment goal of considering these social factors is to identify companies that are well-positioned to perform financially over the long-term while also having a positive impact on society.

What are the ESG factors for social responsibility?

Look at ESG factors, such as:

• Labour practices: 

How does the company treat its employees, including issues such as fair pay, safe working conditions, and the right to unionise.

• Human rights: 

Consider a company’s respect for human rights, including issues such as discrimination, forced labour, and child labour.

• Community relations: 

Look at a company’s relationship with the communities in which it operates, including issues such as community development and local job creation.

• Product safety and impact: 

Look at how a company’s products and services impact society and how safe they are.

• Corporate social responsibility (CSR): 

You can look at a company’s overall commitment to social responsibility, including issues such as philanthropy, volunteerism, and sustainability.

And moving to the last element –

What does ‘governance’ in ESG investing mean?

In the context of ESG (Environmental, Social, and Governance) investing, the “governance” aspect refers to the consideration of a company’s management and leadership practices when making investment decisions.

Your main goal here is to identify companies that are well-positioned to perform financially over the long-term while also being well-governed.

Good corporate governance is expected to have sound management practices, strong oversight and decision-making processes, and a good track record of responsible conduct.

What are the ESG factors for corporate governance?

• Board composition and independence: 

This looks at the composition of a company’s board of directors, such as its diversity, independence, and the board’s skill sets.

• Executive compensation: 

How does the company executive compensate its executives, including issues such as fairness and alignment with company performance.

• Transparency and disclosure: 

Here you may consider a company’s transparency and disclosure practices, including issues such as financial reporting and communication with shareholders.

• Shareholder rights: 

You may consider a company’s practices related to shareholders rights, such as the ability for shareholders to vote on key issues, and the process for shareholders to propose resolutions.

• Risk management: 

Look at a company’s risk management practices and its ability to identify and mitigate risks, including issues related to ESG risks.

How does ESG investing work?

Overall, your goal of ESG is to identify companies that are well-positioned to perform financially over the long-term while also having a positive impact on society and the environment.

There are several ways that ESG can be applied when making investment decisions:

• Screen Investments: 

This is the most common way to implement ESG. Screening involves excluding companies that do not meet certain ESG criteria from an investment portfolio.

For example, you may choose to exclude companies that are involved in certain controversial industries, such as tobacco or weapons manufacturing, from your portfolio.

• Impact investing: 

You aim to achieve specific social or environmental outcomes, in addition to financial returns.

For example, you may choose to invest in a company that is working to develop renewable energy sources in order to help combat climate change.

• Sustainability-themed investing: 

Your investing focuses on companies that are well positioned to benefit from long-term trends such as population growth, urbanisation, and resource scarcity.

Sustainability-themed investing may include companies that operate in areas such as clean energy, sustainable agriculture, and water management.

• Active ownership: 

By engaging with companies to encourage them to improve their ESG practices.

This can include voting on company proposals related to ESG issues at shareholder meetings or engaging with a company’s management team to discuss ways to improve their ESG practices.

• ESG integration: 

ESG integration is a process of assessing a company’s environmental, social, and governance risks and opportunities within the context of the traditional financial analysis and measuring financial returns.

This process is used to identify companies that may be better equipped to manage risks and capitalise on opportunities over the long-term.

ESG Criteria

The criteria for ESG can vary depending on your specific investment approach and your individual investing preferences.

Currently, there is no universally accepted standard for determining which companies are “ESG-compliant,” or required for ESG reporting, which can make it difficult for you as an investor to compare and evaluate different investment options.

This is one of the challenges you will find with ESG.

Some investors may use a standardised ranking system, such as the Sustainability Accounting Standards Board (SASB) or the Global Reporting Initiative (GRI), to evaluate companies based on their ESG performance.

Other investors may use their own proprietary criteria or a combination of different evaluation methods as ESG metrics.

It’s a lot to take in, isn’t it? Bookmark this page, so you can refer to it as you begin your research of ESG and ESG companies. Or you can talk to a Sleek team member, we’ll be able to point you in the right direction. Call us on +61 2 9100 0480 or leave us a message here.