While ESG investing has been around in one form or another since at least the 1960s, and possibly much earlier, 2020 and 2021 were the years it really came into its own and cemented itself in the minds of everyday investors.
But what exactly is ESG investing? And how can investors include these investments in their portfolio? We answer these and other questions about ESG investing below.
What is ESG Investing?
ESG investing has, to many, become synonymous with environmentally-friendly or “green” investing. While that’s an important part of ESG investing, it’s only a small sliver of what this investment philosophy entails.
To understand the full scope of what ESG investing comprises, it’s important to go back to the basics by looking at what each letter stands for:
(E) Environmental: The E in ESG investing stands for environmental. As such, investors who engage in ESG investing evaluate potential investments through the lens of how those investments contribute to environmental factors such as carbon emissions, pollution, deforestation, and more.
(S) Social: The S in ESG investing stands for Social, and evaluates potential investments through the lens of social issues. A company’s track record with respect to fair labor practices, living wages, human rights abuses, diversity among its employees, and whether it is actively giving back to the community (among other factors) all contribute to the “S” of ESG investing.
(G) Governance: Lastly, the G in ESG investing stands for Governance, which evaluates a potential investment through the lens of how the organization is governed. Executive pay, the diversity of the company’s board members, whether or not the company engages in political contributions or lobbying, and the company’s share structure are all common considerations.
ESG investing, then, is a method of building an investment portfolio that aims to achieve the investor’s financial goals in the most ethical way possible.
ESG Investing vs. Values-Based Investing
ESG investing is often discussed in the same breath as values-based investing, and for good reason: They’re related concepts. But there are certain differences that you should be aware of.
Values-based investing is a term used to refer to the practice of aligning your investment strategy with your own personal values. Thus, ESG investing can be considered a form of values-based investing. But whereas ESG investing is particularly concerned with environmental, social, and governance-related factors, values-based investing can extend to other areas as well.
For example, one values-based investor with strong anti-war beliefs might decide not to invest in weapons manufacturers, while another who is anti-tobacco might do the same with tobacco producers. Similarly, an investor who strongly supports the 2nd Amendment’s right to bear arms may choose to invest in gun companies, while a different investor who is in favor of stricter gun laws might go the opposite route.
Other related terms that also overlap with ESG investing include:
Socially Responsible Investing (SRI): SRI investors prioritize companies that are seen as socially responsible. Consequently, this school of thought closely overlaps with the “Social” component of ESG investing.
Gender Lens Investing: Gender lens investors consider gender-related factors, such as whether a company is woman-owned or has adequate female representation on its board, when making investment decisions.
Impact Investing: Impact investing refers to the practice of investing with the goal of having a positive impact that aligns with the investors' personal values. For example, an investor who believes strongly in clean energy or water projects for developing countries may choose to invest in related startups.
The Emergence of Greenwashing
If all of this sounds like an incentive for companies to change their ways and become more ethical in their environmental, social, and governance-related endeavors, you’d be right.
As investors—and consumers in general—have become more aware of these factors, it’s led many companies to rethink their strategies in order to have a more positive impact on the world around them. And, generally speaking, consumers and investors have rewarded those companies for doing so.
Unfortunately, it’s also led to the rise of greenwashing, the practice by which a company tries to convince the public it cares about ESG factors without truly taking the steps necessary to make any real difference. The result is a company that looks environmentally-friendly or socially-ethical on paper, but in reality, isn’t. Most cases of greenwashing involve issues related to the environment, hence the name.
Greenwashing can take a lot of different forms, some more deceptive than others. Examples include:
A coffee chain that decides to do away with plastic straws with the goal of “saving the turtles” and minimizing waste, while replacing them with sippable lids that actually use more plastic than before
A car company that touts the low emissions produced by its vehicles while in actuality installing software that allowed the vehicles to cheat emissions tests
A multinational company that donates millions of dollars to environmental causes while simultaneously underpaying its workers in developing countries
Invest in Your Values
Given that companies have gotten so good at gaming the system and artificially inflating their ESG scores, it can be challenging to find investments that genuinely align with your values. That’s why here at Allio, we eschew ESG investing in favor of values-based investing.
Our clients can, if interested, add values-based investing to their portfolio. To do so, clients select the values that matter to them from a list of six that we currently offer—minority empowerment, gender equality, clean water, clean energy, human rights, and traditional values. Their portfolio will then include relevant ETFs built with these specific values in mind.
As a note: Allio’s values-based investment options depend on the existence of ETFs that:
Correspond with each value
Have shares that can be fractionalized–which depends of the ETF’s market capitalization and average trading volume
With this in mind, the exclusion of certain values is not a judgment. As additional options become available, we’re likely to add to this list.