Sustainable investing has begun to gather momentum. As awareness of social responsibility increases, more investors are adopting sustainable investments in their portfolios. Investors are no longer solely seeking profits but are also looking to ensure that their investments positively impact society. Investments can be both sustainable and rewarding, and in this article, we will analyse the strategies to achieve sustainable investing.
What is sustainable investing?
What is sustainable investment? Sustainable investment definition first came from the United Nations World Commission on Environment and Development in 1987. Sustainable investing, definition wise, aims “to meet the needs of the present without compromising the ability of future generations to meet their own needs”. It combines traditional investing with environmental, social, and governance (ESG) considerations to improve long-term outcomes. It is a supplement to asset management theory, not a rejection of core notions. Diverse stakeholders are considered in sustainable investing, which is in line with how businesses are evolving. Industry participants are increasingly recognising that some ESG aspects are economic factors, especially in the long run, and that it is therefore critical to incorporate meaningful ESG factors.
The following are the questions we will look into:
- How is sustainable investment different from conventional investment and performance?
- Why sustainable investing matters?
- How is sustainable investment ensured?
- Sustainable investing's competitive advantages
- Sustainable investing strategies
- How can investing be made sustainable?
How is sustainable investment different from conventional investment and performance?
Conventional investments focus on traditional risks and returns. It does not focus on their impact on their stakeholders, who are affected by their activities. Sustainable investment management focuses on the social aspects alongside generic risks and returns. Sustainable investing performance focuses on the impact and benefits of the investment on society rather than profit. Although profit is not completely excluded, it is secondary to sustainability.
Why sustainable investing matters?
Sustainable investing is crucial because it allows us to work toward a better future by investing in progress. It is undeniable that we are confronted with enormous challenges, both in terms of climate change and from a social and economic standpoint. Governments and businesses will need to make significant adjustments in their operations to properly address these concerns, and investors have the power to influence how they do so. Investors can put their money to work in ways that benefit society and move us closer to a more sustainable future.
They can choose to support sustainable enterprise, from the largest asset management to the tiniest individual investor. The alternative of maintaining the status quo in an era when the investment sector is confronted by rising end-client and regulatory demands as well as tough economic conditions leaves the industry vulnerable to demise.
How is sustainable investment ensured?
Investors can achieve sustainable investment by avoiding certain industries, like tobacco, alcohol, or gambling. With stocks, it is easier to pick and choose, compared to funds, due to their reliance on benchmarks. However, some funds themselves avoid including stocks from certain sectors to appeal more to investors (sustainable investment example - some ETFs ignore fossil fuel reserve companies). Overall, responsible investing is popular and is growing both in Europe and the US, and many institutions and groups are advocating for it to be included in their financial products. Some of those groups are in the following:
- Citizen advocacy
- Shareholder activism
- Community investing
Citizens have the power to bring change to their country, and not just through direct actions, but also through investments. As such, pensions are also investments, and these investments are made in corporations, some of which do not sit well with the moral conscience. Many citizens have urged their states to implement laws that regulate corporate behaviour, ensure both consumer and employee rights, and protect environmental rights. A good example of such is the Norwegian pension fund, which bars risky investments and forbids contributing to acts that violate both human and environmental rights. The United Kingdom did something similar regarding their pension funds when they were forced to pull their investments out of the arms company.
Shareholders can also put in an effort to change corporate behaviour for the better. Such efforts can raise awareness of concerns in the board room, where their votes count. They can start conversations about how the company's behaviour can positively impact their stakeholders.
Another form of shareholder activism comes from investor relations firms, where the firms facilitate shareholder activism in an organised manner. Since investor relations firms are more knowledgeable about the corporate world, their aid effectively brings fruition to the cause.
One can also include shareholder engagement as part of shareholder activism as such, as it is not as intensive as the latter. Rather, it requires minimal effort on the shareholders' part to provide feedback on improving the company's social responsibilities.
A community, as a whole, can also participate in the financial world through investing. Here, the community will come together to invest in community-based projects that benefit the group as a whole. Many institutions lend to communities that would otherwise not receive financial aid through traditional financial institutions. Community-based investments could be creating small businesses, solving housing problems, fixing their infrastructure and improving education. Rather than buying stocks for personal growth, individual investors can positively impact their community by investing in community projects.
Sustainable investing's competitive advantages
Sustainable funds are determined to offer lower market risk, as noted in the white paper "Sustainable Reality: Analysing Risk and Returns of Sustainable Funds". A consistent and statistically significant conclusion was that sustainable funds had a 20% lower risk than typical funds. This lower risk could be due to the fact that these organisations use more severe risk management procedures.
As opposed to the general notion that sustainable investing generates lower returns, newer studies are confirming that it is possible for a portfolio to achieve good financial performance without sacrificing the investor's conscience. According to a study done by Morningstar, in 2020 alone, sustainable investment performed significantly better than other funds on average. From 2007 to 2019, the ESG-dominated emerging market index MSCI EM ESG Leaders increased by 179.52%, while the standard MSCI EM increased by 118.93%. This is due to sustainable strategies that are more future-oriented, attract a more competent workforce, and maintain a better innovation culture, among other things. According to an MSCI poll, improving the ESG grade improves performance considerably. In a nine-year study of industrialised nations, enterprises in the first group expanded by 12% faster than those in the second group.
Sustainable investing strategies
There is no single way to invest responsibly. Various criteria need to be checked out to measure the efficacy of sustainable investment. Some of the most common known strategies of sustainable investments are:
- Environmental, social and governance (ESG)
- Exclusionary investing
- Positive investing
- Impact investing
Environmental, social and governance (ESG)
ESG is a measurable criterion for investors that evaluates whether their investment is a sustainable one. It factors in three conditions to comply with, whether his investments are with corporations that cause environmental harm (e.g. carbon emissions or water pollution), social harm (e.g. neglecting workers' rights and benefits and harming community development) and abuse governance (engaging in corruption). Many corporations have integrated ESG into their responsible investment programmes. Microsoft, for one, has committed itself to social goals to attain sustainability. Investors can look at their practises to make an informed decision about investing. While stocks are easier to evaluate through ESG, many funds are available that are specific in their benchmark for achieving social and green investments. There are ETFs for green projects, bonds that are geared towards community development, and companies that focus on community development.
Exclusionary investing means screening out specific industries from an investor's investment portfolio. For example, an investor can exclude tobacco-related funds and stocks from their portfolio. Opinions on this strategy is divided. On the one hand, many investors do not recommend exclusionary investing because of its historical lower returns and hurts the overall portfolio in general. On the other hand, proponents of this strategy believe that such exclusion will force companies to protect their stakeholders. However, many financial economists have found no evidence between socially responsible investing and better financial performance.
Contrary to exclusionary investing, where the investor screens out sectors, in positive investing, the investor actively invests in companies that have a positive social impact. This strategy factors in the company's social and environmental impact as well as the company's growth sustainability itself. For example, investing in an oil and gas company if the company is actively trying to reduce carbon emissions by using the profits for green energy projects. This way, it does not sacrifice the whole portfolio diversification or long term performance. A 2015 study conducted by Morgan Stanley found that "strong sustainability" investments did better than weaker ones.
Impact investing is another method of positive investing. "Impact investing" refers to those that focus on specific social agendas alongside financial returns. It focuses on companies that have an actual social impact rather than making philanthropic donations. Such corporations may be working directly in the sectors to uplift sustainable causes. A good example is clean technology companies, community development institutions, and microfinance. Investors are participating in sustainability actively by investing in these organisations.
Selecting Sustainable Investments
Before choosing a sustainable investment, investors should first understand why they are investing sustainably and what their expectations are of the product they are investing in, as opposed to what the fund's objective is. Sustainable investments are not all created equal. Some of the ambiguity stems from using the term "ESG" to broadly encompass all sorts of sustainable investing.
How can investing be made sustainable?
According to a report polling 1,000 active investors throughout the United States, 85% of individual investors and 95% of millennials are interested in sustainable solutions. However, despite their enthusiasm, only slightly more than half of the respondents are fully involved in at least one sustainable investing activity, such as testing investments for possibly objectionable companies or divesting entirely from a company that does not conform with the investor's values.
Check the information your broker provides on each fund and the types of firms it invests in to verify that your investment is sustainable. Look at the sustainable rating provided by Morningstar and MSCI for funds and indexes you are interested in. Look for groups and non-profits like "As You Sow, " a shareholder advocacy group that recognises publicly traded firms that are doing good work for the environment. You can also look at Sustainable Investment UK (or UKSIF), a "a membership organisation for those in the finance industry committed to growing sustainable and responsible finance in the UK."
Sustainable investing blends traditional investing with environmental, social, and governance (ESG) factors. Sustainable investment is critical because it allows us to invest in development and work toward a better future. Investors can achieve long-term investing success by avoiding businesses such as cigarettes, alcohol, and gambling. Citizen advocacy, shareholder action, and community investing can all help to make investing more sustainable. Newer research demonstrates that a portfolio can achieve strong financial performance without sacrificing the investor's conscience, contrary to the popular belief that sustainable investing yields inferior returns. There is no one-size-fits-all approach to investing responsibly. To assess the effectiveness of sustainable investment, a number of parameters must be examined. Environmental, social, and governance (ESG), exclusionary investing, positive investing, and impact investing are some of the most well-known sustainable investment techniques. Ensure that your investment is sustainable by looking at the information your broker gives about each fund and the types of companies it invests in. Take a look at the rating for long-term viability.
Sustainable investment has started to gain traction. As people become more aware of social responsibility, more investors are including sustainable investments in their portfolios. Investors are searching for more than just profits; they want to be sure that their investments have a positive impact on society. Investments may be both long-term and lucrative, and in this article, we'll look at some tactics for making long-term investments.