Posted inColumns

Money Matters: Socially Responsible Investing

Both professional and individual investors are increasingly conscious of the social and environmental consequences of the companies and governments that they invest in. Investment is a powerful tool, and can be used to regulate and encourage good labour practices, environmental impact and hiring equality. Moreover, as has been proven time and time again, climate change mitigation and adaptation needs to be part of the conversation. 

In the case of investment, investors should ask themselves: what is the climate impact of their investments; what is the climate-associated risk attached to their current investments’ performance; and how can they invest in a climate-conscious way in the future. Moreover, various investment research bodies such as Morningstar are finding that companies that embrace low-carbon or green technology are more likely to be future proofed.

This growing importance of social and environmental impact for investors is exemplified by the first green bond issued by the European Investment Bank in 2007 worth €600 million, whose proceeds were used to fund renewable energy projects amongst others. By 2017, over $155 billion worth of both public and corporate green bonds had been issued worldwide. 

Green bonds paved the way for the world’s first blue bond issued by the Republic of Seychelles in 2018; worth $15 million, it is used to harness capital markets for financing marine protection and the sustainable use of marine resources. Even more recently, Morningstar analysed the impact of market downturn in Q1 2020 caused by COVID-19 and found that 89% of their sustainable indices outperformed their broad market competitors. 

Socially Responsible Investing

However, this does not mean that sustainable or positive-impact investment harms returns. To the contrary, recent research has shown that investing sustainable improves returns, or at the very least, does not harm them. A 2015 paper published in the Journal of Sustainable Finance and Investment even found that companies that focused on Environmental, Social, and Governance (ESG) practices had, on average, enhanced financial performance. Moreover, a study from Harvard found that companies with good ratings on sustainability issues relevant to their industries significantly outperformed companies with poor ratings on these issues. 

Young people in particular are drawn to making socially impactful investments – this, coupled with the rise of micro-investment and passive investment has led to ESG-driven financial innovations. For example, ‘financially passive, socially active’ exchange traded funds (ETFs), as used by sector leader Nutmeg in their SRI portfolio.

The ESG Framework 

SRI is often considered by investors through the lens of Environmental, Social and Governance factors for investing. ESG broadly includes factors such as water scarcity, human rights, financial reporting, and business ethics. However, with SRI becoming more popular, there has been a growth of new sustainable funds and an ambiguity in the precise definition of terms such as ‘sustainable’, ‘green’, and ‘responsible.’ This has caused several instances of green-washing in which funds have superficially presented themselves as more in line with SRI and ESG factors than they really are. 

The Investment Association published a Responsible Investment Framework in November 2019 to take the first step in addressing the issue of clear standardisation and definitions, promoting and growing the responsible investment sector. The framework aims to standardise some of the key terms used in socially responsible investment such as: 

  • ESG Integration: “The systematic and explicit inclusion of material ESG factors into investment analysis and investment decisions.”
  • Stewardship: “Stewardship is the responsible allocation, management and oversight of capital to create long term value for clients and beneficiaries leading to sustainable benefits for the economy, the environment and society.”
  • Sustainability Focus: “Investment approaches that select and include investments on the basis of their fulfilling certain sustainability criteria and/or delivering on specific and measurable sustainability outcome(s). Investments are chosen on the basis of their economic activities (what they produce/what services they deliver) and on their business conduct (how they deliver their products and services).”  

Ways to Invest Responsibly 

Exclusion: Exclude companies and industries that don’t reflect your values from your portfolio, such as tobacco and oil.

Inclusion: Actively select companies or industries that have a positive impact on the world, such as green technology and social initiatives. 

Integration: Integrate environmental, social, and corporate governance factors into your portfolio to improve your returns and reduce your risk.

Impact: Invest with the aim of generating measurable environmental and social impact, alongside a financial return.

Various investment providers display research on ESG Integrated, ethical and/or sustainable funds such as Sustainalytics, but you often need to pay for more detailed information. However, the Principles for Responsible Investment is a UN supported network of investors whose website has lots of material on SRI from policy documents to academic research in the field.