At first glance, a marriage between fiduciary investors and ESG (environmental, social and corporate governance) investing would seem destined for rocky roads. ESG can cover everything from corporate governance, business ethics, sustainability management, climate change, ecosystem services, and environmental management to human rights, public health and labor standards. How do these attributes mesh with strong company fundamentals and investment potential?
The initial concerns of fiduciary investors regarding ESG investing included “limited universe,” “performance sacrifices” or “alpha deterioration.” Studies are showing, however, that the exact opposite is true. ESG is more than a pretty face. According to a Deutsche Bank 2012 study – Sustainable Investing: Establishing Long-term Value and Performance – a portfolio coupling fiduciary investors with ESG investing would be happy and fulfilling, especially over the long term. High ESG ratings correlated with a lower cost of capital in 100% of the studies; with market-based outperformance in 89%; and with accounting-based outperformance in 85%. Performance in sustainability investments has usually met, and often exceeded, the performance of comparable traditional investments. An April 2015 Morgan Stanley Institute for Sustainable Investing study of U.S.-based Mutual Funds and Separately Managed Accounts confirmed, “This is true on both an absolute and a risk-adjusted basis, across asset classes and over time.” The study also concluded that there is a “positive relationship between corporate investment in sustainability, and stock price and operational performance.” High ESG ratings also correlate with better environment and human rights practices. Good for investors, for people and for the world.
Values, old-fashioned values, re-expressed through technology, corporate leadership and innovation, are turning out to be rewarding for investors. It stands to reason. Consider whether you want to invest (put your capital to work) in the hospitality industry where human trafficking is a major dilemma. Or in stocks of manufacturing or retail companies that profit from child labor. Or in stocks of companies that harm the environment through high carbon emissions or exposure to spills of toxic materials. In today’s increasingly transparent world, people uncover transgressions and communicate their discoveries fast and in real time. Companies are discovering that hurting the environment, breaking laws and/or moral codes, or harming towns or villages can damage a company as quickly and thoroughly as a disruptive innovation.
ESG investing has evolved from just being a screen for negative characteristics to being a guide for selecting investments that in addition to the potential for alpha, have desirable social, economic or environmental attributes. Addressing carbon emissions, water and air safety, and human rights can lead to a superior competitive position over the long term. Socially responsible investors are also taking activist roles to further a company’s success in resolving issues and to work directly to change behavior. Activism is not always necessary for positive change. As the Morgan Stanley report cited, “A 2014 study by Ceres found that 60 percent of Fortune 100 companies voluntarily set clean energy and greenhouse gas reduction targets, saving an aggregate of $1.1 billion annually from 30,000 projects.”
The result is increasing growth in ESG investing.
While ESG happens to be a millennial investment preference, as documented by multiple research reports and surveys, it is turning out to be age-agnostic in appeal. The growth in ESG is leading to better tools for analyzing ESG factors relevant to a company and to integrating ESG parameters into portfolios. Continued evolution will be natural, drawing from yet unknown risk management and analytical tools, valuation models and correlation analyses to improve the results from ESG investing even further.
The marriage of fiduciary investors and ESG investing is likely to prosper and thrive over the next decades. Positive outcomes from successful and thoughtful deployment of capital aligned with important values will grow exponentially. May they live happily ever after.
Charnley & Røstvold, Inc., a preeminent marketing consulting firm to asset management firms ranging in size from start-up firms to some of the world’s largest investment firms with over $1 trillion under management. Charnley & Røstvold helps clients with competitive positioning, marketing strategies, key messages, presentation refinements, communications and sales training, consultant relations and client service programs.
Jackie Charnley, co-founder of Charnley & Røstvold, Inc., is a popular industry speaker and author. Jackie serves on the ICMA-RC Board, a not-for-profit company serving the financial needs of over one million public employees. She was also a founding board member of PAICR (Professional Association for Investment Communications Resources).