Sustainable investments give back in return. What investors should know about ESG.
Invest for profit while doing good? Thanks to ESG and sustainable investing, you can do just that. Read why the ESG criteria are a useful tool in the investment process, and investors should look to sustainability for long-term success.
Sustainable investments are becoming more and more popular
Whether purchasing clothing or food, choosing how to get around and travel options, or when investing our own money, sustainability is an important topic for more and more people. In particular, millennials and affluent individuals want their investments not only to generate attractive returns, but also to contribute to positive global change.
At the same time, companies that integrate sustainability into their strategy are gaining the upper hand over the competition. They offer attractive opportunities for investors and can go a long way toward improving the risk/return profile in a portfolio. Take, for instance, the dynamic growth of sustainable investments seen of late. At the end of 2018, the volume of all investments with a sustainability focus was more than USD 30 trillion. That's a 34% increase compared with 2016.
What do the ESG criteria mean?
The ESG (environment, social, governance) criteria have become the standard for evaluating sustainable investments. These allow investors to determine whether companies systematically evaluate risks and opportunities from an environmental, social, and governance standpoint.
When combined with a classic financial analysis, these factors can be used to better estimate future performance and risks of the investments on one hand, while investors can strategically design their portfolio in accordance with their personal values and sustainability on the other.
Environmental
Environmental criteria include aspects of a company's resource and energy consumption and/or emissions. This also includes the evaluation of potential environmental risks that the company might face, or the effects of new environmental laws and how they handle these risks.
Social
Social criteria are concerned with the values that a company stands for, as well as its treatment of employees, clients, subcontractors, and even the local community. This ranges from compliance with employment laws to enforcing sustainability standards with its business partners.
Governance
Governance criteria are used to evaluate companies in terms of their management and control structures, business ethics, and transparency of their corporate policies. This includes how they respond to whistleblowers, or management's attitude toward shareholder codetermination.
ESG factors for sustainable investments
Source: Credit Suisse
Which ESG approaches are used on the market?
Sustainable investments offer investors the opportunity to generate competitive returns while making positive social change and reducing the risks in their portfolio. In addition to the financial data, environmental, social, and governance information helps investors to make better-informed investment decisions. To design an effective sustainable investment strategy, there are three different approaches for asset managers and private investors. These can also be used in combination depending on the investment objective:
ESG approaches
Three common approaches to stock selection, according to the ESG criteria in the overview.
| Exclusions | Systematic avoidance of investments in controversial business segments, or specific companies that conduct themselves in a manner inconsistent with defined standards and values. This could include companies from the arms industry or those that tolerate unethical working conditions. |
| Integration | Systematic consideration of financially relevant ESG risks and opportunities in combination with a traditional financial analysis at the time of portfolio design. |
| Thematic strategies and impact investments | Alongside generating market-oriented returns, impact investments also consider the contribution to the UN's sustainable development goals. This includes, but is not limited to, eradicating poverty and hunger, measures to counteract climate change, and promoting education and gender equality all over the world. |
Sustainable investments are the middle ground between a pure focus on returns and philanthropy
Source: Credit Suisse
Find the right stocks for your portfolio with ESG
Investors profit many times over from ESG investments. Alongside the good feeling that comes with investing in positive change for environmental and social issues, taking account of sustainability criteria also means better-informed investment decisions.
Moreover, studies show that companies with good ESG management tend to be more profitable – not just in the long term. They are also better prepared for sudden crises than companies that do not follow a sustainable governance concept. Take, for instance, the COVID-19 crisis. During their low point at the end of March 2020, ESG indices fared better in all European markets than indices without an ESG focus. Thus, investors can improve not only their risk/return profile with sustainable investments, but also benefit from new opportunities.
ESG indices performed better in the COVID-19 crisis
Index performance between January 1 and March 25, 2020, in local currencies
Sources: BAML European Equity Strategy, Bloomberg, Morningstar
