So you read our last article explaining the different between SRI vs. ESG vs. Impact Investing — BUT you want to know more! In the world we live in today, there is a growing popularity to invest in securities that are putting ESG at the forefront of their companies long-term goals. This has become more important than ever as we have seen the effect that company policies can have on their employees, and the greater good of society.The growth of sustainable funds has been accompanied by a range of labels and different methodologies. We have broken these down to help you better understand the methodology behind each.
To start, it is important to define ESG. ESG investing is value-based investing, socially-conscious and ethical investing. It means to invest in companies that put an emphasis on Environmental, Social and Governance (hence, ESG) policies to create a more sustainable company and world for the long term. The environment portion showcases companies that focus on things such as pollution and waste or innovation within cleantech and renewable energy. Social encompasses items that have come into increasing scrutiny during 2020, including labor policies, product liability and social impact reporting. Finally, Governance includes items such as business ethics, executive pay and transparency. As a whole, this makes up the approach behind ESG investing, but there are still many methodologies on how to find and invest in companies that possess these traits.
Okay okay… but what the heck are ESG fund methodologies? In order to understand ESG Fund methodologies we can break them into four broad categories: ESG Consideration, ESG Integration, Impact, and Sustainable Sector.
ESG consideration can simply be categorized as consideration of ESG in the investment process. These funds typically score the lowest when it comes to sustainability ranking since their purpose is to understand and examine ESG information, but not necessarily to construct their portfolio around ESG initiatives. What differentiates this category is that no exclusionary screens are used, meaning that if a company does not meet certain ESG standards they may still be admitted into the fund. JP Morgan US Equity ETF is an example of an ESG consideration fund, as they state in their prospectus that they consider ESG factors when making investment decisions. Seeing as though ESG is only one part of the decision making process there are many examples of ESG Consideration Funds throughout the fund landscape today.
ESG Integration is defined as funds that fully integrate ESG criteria into all aspects of the investment process. The largest amount of funds and most sustainable (according to morningstar sustainability rankings) fall into the category. ESG Integration does include exclusionary screens and encompasses robust ESG analysis to seek out companies that are sustainability leaders. Some focus on specific sectors and invest in the most sustainable companies within each sector, while others look at the market as a whole and select “best in class” securities regardless of sector. The JPMorgan Intrepid Sustainable Equity fund for example states in their prospectus that they “identify companies that generally approach environmental, social and corporate governance practices in a thoughtful manner”. The creation of the portfolio differs widely among this category, but the idea of fully integrating ESG into their investment process can be found among them all.
Impact investing has historically been available solely to ultra high net worth individuals, or institutional investors, but is now more broadly available to the market. These funds look to invest in companies to generate social or environmental impact, and are usually focused on specific themes such as low carbon, or gender equality. For instance, the Impact Shares YWCA Women’s Empowerment ETF looks specifically at companies that are empowering women to make up their fund. Although very effective in their specific focus, these funds tend to have lower overall ESG scores then ESG Integration funds due to the fact that they take a less comprehensive approach when determining securities.
The first to launch, but the smallest category among the four, is the Sustainable Sector funds. These funds focus on the “green economy”, for instance, renewable energy, energy efficiency and water infrastructure. Invesco Water Resources ETF is the largest of these funds which focuses on water resources among multiple sectors. Because this category tends to focus on the E in ESG, they tend to score lower on sustainability rankings than ESG integration and Impact funds.
There are no significant differences between the performance of ESG consideration, ESG Integration, and Impact funds, but ESG Integration funds typically scored higher on Morningstar Sustainability Rankings, had more low carbon designations, had less exposure to guns and tobacco, and supported ESG-related shareholder resolutions to a greater degree then all the other fund types.
Regardless of which method you choose to invest in, we can conclude that your investment will benefit securities that are tackling some of the most crucial issues we are facing today. To view the impact, we can look into each of these funds. For example the TIAA-Cref Core Impact Bond fund has invested $107.9M in affordable housing, $138.9M in community and economic development, $376.2M in renewable energy and climate change, and $404.5 M in natural resources. Many times impact can also be seen through shareholder resolutions. Shareholder engagement since 2011 has persuaded 7 US firms to commit to purchasing 100% of their palm oil supplies from sustainable sources. Not only are these funds causing positive change in companies, but they on average outperformed the market in 2018 and 2019, a trend that is continuing through the volatile year of 2020. The question now is how can you make an impact with the money that you invest in the market?
Arnie can help! Arnie gets you involved in the market by investing in securities that match your values and continue to create a better world for the generations to come. We can help you invest in what you believe in divest from what you don’t (SRI), and not be penalized financially at all. So what are you waiting for? Check out how to get started today at Arnie.
