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The Gordon Gekko ‘Greed is Good’ philosophy meant that investing used to conjure up images of bankers in braces looking to hit targets, deliver profits, and do whatever it takes to make money. However, investors and companies alike have started to realise that greed is no longer good, especially if it’s shown to come at the expense of ethical corporate practice.
While there have always been investors who have wished to match their money with their morals, it was until recently a pretty subjective endeavour, and there was little accountability across the industry as a whole to ensure that companies were operating sustainably.
In recent years, Environmental, Social and Governance (ESG) standards have become commonplace measures used to assess how firms operate and hold to account those who demonstrate substandard practices.
As momentum gains behind ESG investing, it’s becoming easier than ever before to invest sustainably, and to ensure our returns don’t suffer as a result.
E, S and G
First off, what does ESG really mean? It all sounds very promising, but you might be forgiven for thinking it’s just another three-letter initialism for companies to hide behind.
Each letter stands for a distinct standard against which companies are measured. The ‘E’ is the one people tend to think of first. With climate change such a pressing issue, it’s natural and right that companies are increasingly scrutinised for their environmental impact.
The ‘S’ and ‘G’ have tended to play second fiddle, but the glaring social issues brought to the fore by Coronavirus have in many ways helped them to find their place under the microscope. Companies can no longer neglect their organisation’s social credentials - these can include maintaining inclusive workforces and ensuring correct treatment of consumers.
And governance? You can learn most about that from how not to do it - recently the German-listed payment processing firm, Wirecard, caused outrage when it disclosed a €1.9bn (£1.7bn) hole in its accounts, and its chief executive was arrested on suspicion of inflating the company’s finances.
Scandals like this serve to remind us of how important extra due diligence is. Mismanagement on this scale should have been picked up long before it could have such a detrimental impact on customers, 100,000s of whom had their payment accounts frozen and were left unable to access their money. ESG screenings help to root out instances of poor governance and force companies to act more responsibly in general, in the knowledge that fund groups like Fidelity will hold them to account.
Whether you care about sustainability or not (hey, who am I to judge), there is far more scrutiny of firms’ practices across the board because, in the end, it’s the balance sheet that suffers if firms aren’t up to scratch. You don’t have to be an environmental activist to want sustainable revenue streams.
Your ethical may not be my ethical
For those of you who do care about sustainability, part and parcel of the increased scrutiny of a company’s ESG credentials is the emergence of niche funds designed to suit investors’ own ethical demands. The attention different funds pay to different ESG qualities means there will be alternative ways to invest in line with your particular set of morals.
On one end of the spectrum, managers may exclude entire industries which they deem to be damaging from their funds, while other funds screen for companies which offer meaningful positive impact.
Bryn Jones, manager of the Rathbone Ethical Bond fund, uses a combination of negative and positive screening to uncover the sorts of businesses which meet his fund’s high ESG standards. Once he has excluded ones which he feels demonstrate negative behaviour - such as tobacco or gambling firms - he will only invest in a company if it can also demonstrate at least one of his positive behaviours - these can involve community investments, or good working practices for gender or racial equality.
Jones’ screening process demonstrates how different funds with their own set of niches and priorities can give us the flexibility to match our investments with our individual outlooks.
Sustainable investing and sustainable returns
At the heart of sustainable investing we’re looking for companies that are building sustainable futures - ones which involve good management, transparent practices, and are not going to come under fire for not complying with regulations.
All of this doesn’t just make for a good set of ethics, it makes for a good company. In fact, they’re the same sort of qualities that I suggested investors should look for in companies last week.
We’ve seen over the course of the COVID-19 pandemic that those companies that boast strong ESG factors have tended to outperform those that don’t. As Fidelity’s Jeremy Podger says: “Adopting ESG principles in investment is compatible with - and will likely enhance - the investors’ traditional risk and return objectives.”
As our generation accumulates wealth, companies will be put under more and more pressure to ensure their practices comply with our demands. A Morgan Stanley study found that millennial investors are nearly twice as likely to invest in companies or funds that target social or environmental outcomes, with 86% of us interested in sustainable investing (compared to 75% among the general population).1
Ours is a more socially conscious generation, meaning ESG is only likely to grow in prominence as we wield greater influence. And remember - as young people, we’re long-term investors. ESG investing is fundamentally all about the long-term. It’s there to ensure that both our finances and our society remain sustainable.
More on ESG investing
Important information: Investors should note that the views expressed may no longer be current and may have already been acted upon. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. Overseas investments will be affected by movements in currency exchange rates. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.
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