What Is ESG? Environmental, Social and Governance Investing for Beginners
As an individual, you can try and reduce your carbon footprint, be socially conscious and vote for candidates that align with your beliefs. If you zoom out a bit, what would that look like for a business or even a global conglomerate? How you invest in your future is important, but sometimes that means more than just dollars, but also your good sense.
What Is ESG Investing?
Environmental, Social and Governance (ESG) investing is a sustainable investment strategy that takes environmental, social and governance systems into account. This socially responsible investing strategy centers on those ESG factors, such as greenhouse gas emissions, supply chains and other health and safety issues caused by companies, along with what those companies are doing to reduce risk as opportunities for growth occur.
Essentially, ESG is a blueprint for companies to evaluate their sustainability by social and environmental issues and standards.
ESG Score
A company’s ESG rating is based on several ESG criteria broken down into the categories of environmental, social and governance. Here is a look at some of the factors considered in each category.
| Environmental | Social | Governance |
|---|---|---|
| Air and water pollution | Company policies on gender, diversity and sexual harassment | Board member diversity and executive pay |
| Green energy protocol | Human rights considerations | Settled, current and pending lawsuits |
| Deforestation | Customer satisfaction ratings | Lobbying and political contributions |
| Waste management | Customer and worker data security | Known internal corruption |
Examples of ESG Stocks
Here are a few companies with good reputations in the ESG sphere and positive financial outlooks.
ESG Investing in 5 Steps
If you’re looking into ESG issues and want to start long-term impact investing, there are some steps you should take to make sure that you fully understand what you’re getting involved in and that the investments you end up with match your objectives.
- Choose your approach.
- Define your focus.
- Develop a portfolio allocation.
- Select your investments.
- Monitor your performance.
1. Choose Your Approach
When it comes to ESG investing, there are two broad categories of investment: positive and negative. Positive involves buying shares of companies that you feel are doing beneficial things for the world, such as removing pollution from the oceans, filtering the air or generating clean energy.
Negative investing avoids funneling money towards those companies you may perceive as causing social harm, be that producing fossil fuels or building weapons. As each investor has their own individual values, categorizing companies as “positive” or “negative” is a personal choice.
2. Define Your Focus
There are countless types of investments within the ESG universe. If you want to create a manageable portfolio, you’ll have to narrow down your investment focus. For example, do you only want to invest in clean energy companies? Those with good corporate governance? Socially conscious companies that treat their workers well?
Choosing your focus will help you narrow down your investment choices to those that speak to you the most. It can also direct you towards specific investments that match your goals.
3. Develop a Portfolio Allocation
Once you’ve chosen your ESG investment target, you’ll have to define how much of your portfolio you want to dedicate to it. Will you only invest in ESG companies, making them 100% of your portfolio? Here are some considerations:
- These investments can be used as a diversification tool.
- When beginning, 10% or 20% weighting into your existing portfolio can go a long way.
- Your allocation percentage can dramatically affect which investments you ultimately end up buying.
- If you’re making your portfolio 100% ESG, you might want to consider a broader-based fund so that your investments are less volatile.
- If you’re only inserting a 10% ESG allocation into an existing, diversified portfolio, you can likely make that investment more sector-specific.
4. Choose Your Investments
Now that you’ve chosen your approach, your focus and your investment allocation, you can pick specific ESG investments. Do you want to own individual stocks, mutual funds, exchange-traded funds or all of the above? These are all personal choices that you may want to make in consultation with a financial advisor.
Good To Know
In the early days of ESG investing, the sector was known more for its poor performance than for its socially aware investment style. However, now there are some market-beating funds among the many more offerings. With a little due diligence, you should be able to fund funds or stocks that both meet your ESG investment objectives and offer good performance.
5. Monitor Your Performance
If your ESG fund or stock is underperforming over time, you’ve got a decision to make. Although you might be able to sleep at night knowing your investments match your personal ethics, if your performance is falling short, you might not reach your financial goals.
Say you’re using an ESG investment to fund your retirement. Although you may be proud that you’re investing according to your beliefs, if it means that you won’t be able to retire until you’re age 90, your fund could be doing you a disservice. Consult with your financial advisor to find an appropriate mix of ESG and traditional investments so that you can have both peace of mind and a well-funded retirement account.
Final Take To GO
Taken broadly, ESG investing analyzes how a company’s business practices might be positively or negatively affecting the world, through either the products they make, how they treat their workers, how ethical their board members are and other socially and environmentally positive lenses.
FAQ
Here are the answers to frequently asked questions about ESG and what environmental, social and governance investing entails.- Is ESG investing good?
- Yes – though you always want to do your research on what investments make sense for your portfolio, ESG investing is good as it highlights companies doing their part to be sustainable, which could lead to a less-risky and stable market.
- What is ESG in simple words?
- ESG stands for environmental, social and governance when it comes to companies' practices. Essentially, it is a blueprint for companies to evaluate their sustainability by social and environmental issues and standards. This investment strategy focuses on ESG factors such as the environmental impact, social diversity and political practices of companies.
- Is ESG investing profitable?
- ESG investing, like all investing, comes with risk. It can be profitable, but it's important never to invest more than you can afford to lose, and invest in companies with strong fundamentals to reduce your risk as much as possible.
John Csiszar contributed to the reporting for this article.
