ESG investing, also referred to as socially responsible investing, focuses on the environmental, social and governance aspects of companies. 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 positive lenses.
If you’re looking to start ESG 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. Here’s a quick look at the things you should consider before you take the plunge into ESG investing.
Choose Your Approach
When it comes to ESG investing, there are two broad categories of investment: positive and negative. Positive ESG investing 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 ESG 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 obviously a personal choice.
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? All of the above? Choosing your ESG 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 ESG goals.
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. For example, are you the type of investor that will only invest in ESG companies, making them 100% of your portfolio? Or are you using ESG as a diversification tool, and seeking to inject a 10% or 20% weighting into your existing portfolio? 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 ESG 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 and/or aggressive.
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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? Do you want an all-in-one ESG fund that is already diversified among a variety of ESG investments, or do you want to choose a specialty fund or individual stock that covers just one area of ESG? These are all personal choices that you may want to make in consultation with a financial advisor.
The good news for ESG investors is that the industry has come a long way in terms of performance. In the early days of ESG investing, the sector was known more for its poor performance than for its socially aware investment style. But now, there are some market-beating funds among the many ESG 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.
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 ESG investments match your personal ethics, if your performance is falling short, you might not reach your financial goals. Let’s 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.
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