Investing Fundamentals: Understanding ESG Investing

John Tennaro, CIMA®, CSRIC™
June 25, 2020

Do you want your investments to reflect your values and have a positive impact on the world? Or perhaps you are a young professional—or know one—who simply wants to use investing to support sustainable and responsible companies? If so, you are not alone.

We live in a complicated and rapidly changing world. Thanks to technology, we now have greater access to information. And because we are better informed, we can hold companies accountable to a higher standard in terms of their business practices—especially in relation to the environment and society.

ESG investing

ESG is an acronym for environmental, social and governance. ESG investing is sometimes used interchangeably with sustainable and responsible investing—an umbrella term that applies to a number of investing approaches that consider ESG factors in the investment selection and portfolio construction process.

There are a lot of terms and acronyms associated with ESG investing, and it is easy to get lost in the nuances. But because so many of the definitions are elastic and change over time, we recommend focusing on the intentions of ESG investing rather than getting hung up on specific labels.

ESG factors

ESG factors can be used to help uncover opportunities, identify risks and generate competitive returns for investors.

Environmental 

Environmental considerations include climate impact, natural resource use, energy consumption, conservation efforts and waste management.

Social 

considerations include health and safety, privacy and data information, labor relations, human rights, community involvement and employee diversity.

Governance 

Governance considerations include a company’s management structure, board accountability and independence, business ethics, executive compensation, audits and internal controls, transparency and shareholder rights. 

ESG integration

ESG integration involves incorporating ESG factors into the investment process—in addition to traditional financial analysis—as a means to enhance returns and manage ESG-related risks.

ESG metrics can provide insight into a company and capture important information about intangibles, such as brand value and reputation, that may otherwise not be reflected in traditional analysis. This enhanced perception could have a profound effect on a company’s valuation.

In addition, there is increasing evidence that shows a connection between a company’s willingness to embrace ESG criteria and its long-term performance. A company that demonstrates a quantifiable, positive impact is often a well-run organization. These companies are usually good environmental stewards, care about their employees and the communities in which they reside, and have strong corporate governance policies.

It was previously thought that ESG investing meant investors would have to sacrifice performance, but studies show that is no longer the case. In fact, studies now indicate a positive relationship between ESG criteria and financial performance.1 Moreover, by not considering ESG factors, it is possible for investors to ignore important risks that could have a significant impact on performance. As a result, an increasing number of investors are seeking to integrate ESG criteria into their traditional portfolios.

Growth of ESG investing

Younger investors have largely been credited with driving the growth in popularity of ESG investing. But ESG investing is gaining momentum across generations. Investors of all ages are increasingly taking a sustainable approach to pursuing their investment goals by integrating ESG criteria into their traditional portfolios—driven by a desire to achieve competitive returns while considering an investment’s ESG impact.

According to a report from US SIF: The Forum for Sustainable and Responsible Investment, sustainable, responsible and impact investing continues to see rapid growth with no signs of slowing. One out of every four dollars under professional management in the United States was invested in ESG investments in 2018, or nearly $12 trillion in assets under management, up from $8.7 trillion in 2016—a whopping 38% increase in just two years.2

Factors contributing to the boom in ESG investing include increased access to information, greater availability of investments, improved performance and more women in leadership roles.

With the rise of ESG investing, investor behavior is changing corporate behavior. However, as the ESG landscape continues to evolve and expand over time, it is important to remain informed, educated and prepared to adapt.

 

CIBC Private Wealth’s Wealth Your Way podcast series is an educational offering for clients and their children, and demonstrates our commitment to developing the rising generation. Listen to the podcast on responsible, sustainable and impact investing.

 

John Tennaro is the Head of ESG & Impact Investing Solutions in CIBC Private Wealth Management’s Washington, DC office with more than 20 years of industry experience. John is responsible for overseeing all aspects of our firm’s approach to ESG & Impact Investing.

 

1 Journal of Sustainable Finance & Investment, 5:4, 210-233
2 https://www.ussif.org/files/2018%20_Trends_OnePager_Overview(2).pdf