The Evolution of ESG Investing

The Evolution of ESG Investing

ESG investing, which evaluates environmental, social and governance issues in addition to financial analysis of an investment, has grown substantially since its inception in 2005 and today represents a market of more than $20 trillion, according to Forbes.  As more individual and institutional investors include ESG strategies or adapt their entire mandates to incorporate responsible investing, managers across the globe and of every persuasion have added capabilities to assist them.  In addition, more than 80% of the largest corporations in the world include reporting on ESG implementation and stock exchanges are adding ESG reporting to listing requirements.

Sustainable Actions = Sustainable Profits
At its inception, the underlying assumption of ESG investing is that sustainable actions create sustainable profits.  Therefore, investments in enterprises that behave in a principled fashion will outperform investments in enterprises that do not.  ESG investors evaluate at several criteria in assessing sustainable performance, including how corporations: respond to climate change; treat workers and partners; manage their supply chains; and build trust and foster innovation.  These factors, while not part of traditional financial analysis, are believed to have significant long term financial relevance.  More recently, and thanks to increased corporate reporting of ESG activities, studies have proven a positive correlation between adherence to ESG principles and higher financial performance.

ESG Investing Is Here to Stay
Though some may argue that ESG investing is merely a fad that will fade in time, a closer look shows that a number of factors support an increase in awareness of ESG principles.  First, the availability of technology that allows investment screening based on ESG factors has enabled all types of investors to make ESG informed investment decisions.  This is particularly important for millennials, who may be smaller investors on average today, but are increasingly in positions of influence over larger portfolios.  In addition, ESG analysis is consistent with an overall trend by corporations to increase transparency into their policies and operations and the capabilities of big data to distill these qualitative disclosures into actionable information.  Finally, the focus on climate change and the human activities that contribute to it is growing.  As individuals change their personal behavior to reduce their carbon footprint and environmental impact, they will likewise expect corporate citizens to do the same.

What To Expect for the Future of ESG
As the ESG market continues to grow, we believe investors, particularly large pension plans, foundations and endowments, will seek to do more than just ensure their investments stand up to ESG principles.  These investors are likely to be among the first to adopt investment strategies specifically designed to meet specific ESG objectives.  For example, we see increasing interest from institutions in acquiring commercial renewable energy projects.  These investments generate excess risk-adjusted returns and produce identifiable and quantifiable environmental and social impacts, including reduced environmental impact and increased community energy independence, as well as high-paying employment opportunities.  Indeed, these institutions are likely to help drive structural innovations that allow them to participate in such investments.

The evolution of ESG investing will continue to drive outsized returns for investors as well as contribute meaningfully to the development of markets for renewable energy sources and technologies and energy efficiency initiatives.