An Eye-Opener on ESG & Sustainable Investing

While last year was a roller coaster for some and a blur for others, important events throughout the year had a a lasting impact on the ESG and sustainable investing front.

Published October 7, 2021

Reading Time: 4 minutes

Bud Sturmak

Written By:
Bud Sturmak, CFP®
Zoe Advisor Network

If there was still doubt that sustainable investing has hit the mainstream, 2020 definitely eliminated it. The urgent call for racial equality, the tremendous impacts of COVID-19, and the looming climate crisis are calling for more companies to support than ever before, generating a very strong jump on the sustainable investing and ESG concerns front. These events are also very telling of why organizations that consider sustainability are positioned to succeed, and why those that don’t are more likely to flounder.

Measuring the value of any organization should include a careful analysis of the environmental, social, and governance (ESG) factors. On the investing side, the evidence is pretty clear: vehicles that consider ESG factors are outperforming benchmarks, sustainable investments are consistently attracting greater inflows, and the global disruption is putting a spotlight on corporate behavior.

Let’s start from the beginning:

What Is ESG?

Sustainable Investing takes into account environmental, social, and corporate governance (ESG) concerns into an investment strategy, with two outcomes in mind: positive societal impact, and positive financial performance.

Environmental

Companies can increase profitability through effective resource management, waste reduction, adoption of sustainable processes, or by offering products or services that address sustainability issues. These elements not only play into forward-looking business models, they present opportunities for authentic, market-facing messages that reinforce brand reputation.

Poor environmental performance, on the other hand, can increase the cost of capital, operating costs, create potential liabilities including fines and lawsuits, and invite reputational risks.

Social

Evaluating the corporate impact on all stakeholders (employees, suppliers, customers, and local communities) used to elicit eye rolls among mainstream investors. COVID-19 reinforced that “S” factors are increasingly material and more relevant than ever.

Consider a recent study by State Street of corporate responses to COVID-19 that addresses social concerns. Results based on aggregations of online reactions and news coverage showed that “firms experiencing more positive sentiment on their human capital, supply chain, and operational response to COVID-19 experienced higher institutional money flows and less negative returns.”

COVID-19, racial injustice, and gender inequality are among the most influencing factors for a brand reputation and will be key drivers of a firm’s value going forward.

Governance

Furthering the State Street findings, sound governance practices create a culture of transparency and accountability. Those two elements have never been as important to a corporate brand as today since the consumer and the activist universe have easy access to nearly everything a company does.

Poor governance can result in fines, legal costs, disruptions to materials, labor, and productivity, negatively impact revenues, increase the cost of capital and severely damage brand value. Companies that continue to be managed under the antiquated notion that their sole purpose is to maximize profits for shareholders put their reputations at risk.

Companies focused solely on cost-cutting and shareholder buybacks are missing crucial signals from society and investors.

2020: Impact In Review

The convergence of COVID-19, racial injustice, and climate change magnifies pressures regarding corporate sustainability that have been building for some time. The media, climate activists, pensions, and a growing community of investors are intensifying demands on corporate behavior.

These corporate pressures have also resulted in a significant institutional shift in redefining the role and purpose of a corporation. The August 2019 Business Roundtable statement was a concrete step by companies to move toward a more inclusive form of capitalism that benefits all stakeholders including workers, customers, suppliers, and local communities. COVID-19 and the protests against racial injustice will likely accelerate this shift and may further amplify the financial materiality of ESG factors.

A Call to Action

Sustainable investing offers a path to better risk management and the potential to enhance long-term returns. However, how you choose to invest can make a difference. Moving your portfolio to sustainable investments can have a positive societal impact and at the same time achieve better financial performance.

Here is a quick summary of the benefits of moving to a sustainable investment portfolio:

  • Improve risk management through the integration of ESG analysis
  • A smarter allocation of capital to companies well-positioned for the long-term
  • Encourage companies to adopt more sustainable business practices
  • Encourage companies to reduce emissions, set reduction targets, mitigate climate risk, and align with the Paris Agreement
  • Encourage disclosure on company diversity and pay equity to ensure equality for all
  • Encourage good stewardship with regard to the treatment of workers, suppliers, customers, and local communities
  • Make a positive impact on society

The more effective direction seems clear, sustainable Investing and ESG concerns analysis should be an integrated part of any sound investment process.

Disclosure: This blog is not investment advice and should not be relied on for such advice or as a substitute for consultation with professional accounting, tax, legal or financial advisors. The observations of industry trends should not be read as recommendations for stocks or sectors.

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