As investors, how a company approaches issues like climate change and human rights is becoming just as important as the money it makes.
Companies are increasingly being held to account by consumers and shareholders, keen to ensure they are not focusing on short term profit at the expense of sustainable long-term performance. They are being defined by how they respond to issues and events, and this is driving the need to create a more inclusive, sustainable, and resilient operating environment.
Responsible investing seeks to minimise the negative effects generated by business and promote positive impacts, ultimately delivering a healthier economy, society and environment alongside stronger financial returns.
Responsible Investment Association Australasia (RIAA)
Among retail investors, millennials have driven much of the interest in sustainability. In fact, younger Australians continue to say they would save or invest more if they knew their money would make a positive difference. That’s not to say interest isn’t high in other demographic groups.
The growth in sustainable investing seems set to evolve even further as people gain a better understanding of how environmental, social and governance (ESG) factors can drive better long-term returns.
What does sustainable investing mean to you?
You may have noticed that terms like responsible, ethical and sustainable investing are often used interchangeably, when they actually have different meanings. Here’s a quick summary of the key industry terms:
Sustainable investing is about how a company does what it does and less about what it does. How does it manage its long-term stakeholders, corporate social governance, ethical and environmental factors? Whilst sustainable investing encompasses a range of investment approaches it’s important to remember that the focus of sustainable investment strategies is about understanding the full picture. This includes being able to assess a company’s long-term value, based on not only financial factors but also the appropriate (ESG) factors that may influence the investment performance.
Ethical investing excludes certain industry sectors, companies, practices or even, at times, countries based on specific values-based criteria from a fund or portfolio. The difference with ethical investing is that the first consideration is what you don’t want to be invested in, so the focus is more on what companies do. Ethics can be personal and subjective, if this is important to you, it may help your research to be as clear as you can about what you don’t want to be invested in and why this is the case.
Lastly, Impact investing is focussed on businesses with a distinct social or environmental purpose such as a focus on improving social outcomes, or renewable energy. If you’re interested in impact investing, it’s likely that it’s as important for you that your investments generate a positive social or environmental outcome, as well as a financial return.
To paraphrase a famous TED talk – if you know WHY you’re interested in sustainability and what role you want environmental, social and governance factors to play in your investment process, it will be easier to identify companies or Exchange Traded Funds (ETF) that align with your approach.
Let’s think of some examples
- A financial service company may have a very high ‘ESG’ score meaning that it has a good handle on its governance practices and is taking action to address the most material ESG risks in its business. This could be, for example, through initiatives to help customers that experience disadvantage, the complaints handling process or policies for supporting renewable energy companies. This doesn’t mean they won’t provide products or services to industries that you may not like, but it does mean it’s more likely to appropriately consider the financial and reputational risks in doing so.
- A technology company may have a very high ‘impact’ score, because the product or service it produces helps people save energy or reduce reliance on fossil-fuel based energy sources. This doesn’t mean it has a good organisational culture, diverse representation at Board and Senior Management level, or that it considers issues like how workers are treated by the companies that supply it component parts.
- A mining company might have very strong policies for supporting the traditional owners of the land that it operates on, make significant donations to local community groups and support organisations that address systemic issues like climate change or modern slavery. However, this doesn’t mean that it has strong policies to address carbon emissions associated with its products, or is taking steps to address the risk posed by climate change on its operations.
Where can you go for information?
When you’re researching companies, look for companies with good quality reporting and transparency. For example, does the company issue a sustainability report, or publish key sustainability metrics in its annual report or on its website? If they do, what metrics are they measuring, how are they performing against them and how does this compare to other companies in similar industries.
Depending on the company, the kind of information you may look out for might be a commitment to addressing climate change, information about carbon emissions, health and safety policies, and treatment of their workforce, as examples. Do they publish how much they pay senior executives, what sort of diversity policies do they have? Were there any issues at the company, for example injuries? Do they have a high number of complaints, what is their whistleblowing policy and how many reports have they had?
You might be able to access ‘ESG ratings’ or sustainability scores from an external provider to get more insight.
If you’re considering an ETF, these are the types of things the fund manager may take into consideration when choosing which companies to put in the Fund. In this case, it’s important that you read the fine print on any investment option to determine if it’s right for you. The best place to find information on how an ETF approaches sustainability issues is in the Product Disclosure Statement (PDS), Information Sheet or Investment Guide.
This will give you more detail about the ways the different investment options think about sustainability. For example, do they exclude certain activities, prioritise investment in more sustainable companies, or look for companies that are aligned with a specific theme (like renewable energy)?
What you can do today as a retail investor
We know that there are often factors outside of the standard measures of business and financial performance that can influence the viability of a company from an investing perspective.
Ensure you know what you’re trying to achieve when you start looking at ESG factors, and sustainable investment. What is important to you, and what outcome do you want from including this information in your investment process?
There are many ways to start, allocating a portion of your funds to a dedicated sustainable or ethical ETF or other investment option, or personally investing in those companies that you recognise as being involved in social or environmental projects are options to consider.
Things you should know
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