What is Environmental, Social, and Governance (ESG) Investing?

The values of investing have undergone a profound change in the last few years. With environmental concerns taking center stage in international matters, to a rise in demand for social justice, the ideologies have also percolated into investment avenues. ESG or environment, social and governance investing has grown multi-fold. 

Research suggests that ESG investing will balloon to $50 trillion globally from a current $35 trillion market. Following the global trend, India has now started evaluating companies on a special non-financial parameter in addition to the regular financial parameters. This special parameter is ESG. You can make an environmentally and socially responsible investment, if you understand the concept of ESG Investing and its underlying importance.

What does ESG investing mean?

ESG Investing stands for Environment, Social and Governance Investing. It is a strategy that aims to invest in companies with a strong ethical factor while simultaneously generating good returns for investors. While there is no set benchmark as to what constitutes ESG investment, companies geared towards environment conservation or improvement, work towards social justice causes, such as poverty alleviation, or have a robust governance factor are considered promising targets for ESG investing. 

How does ESG investing work?

Environment: Why should investors consider environmental factors before investing?

The environment that we live in is polluted, over-populated, and depleting day by day. The oceans, seas, and rivers are increasingly being polluted with toxic wastes, damaging the ecological balance of our water bodies. With the glaciers melting and the temperatures rising, Global Warming has become an alarming reality. The increased number of vehicles on the roads, and the surging need for private vehicles have led to increased air pollution as well.

As a concern. India is now taking regulatory measures to ensure that companies follow the best practices for environment preservation and energy conservation. These environmentally friendly steps taken by any company would thereby reflect its high focus on growth and sustainability.

Social: Why invest in socially responsible and ethical companies?

Businesses tend to be only profit-oriented. This objective leads to a lot of companies engaging in unethical practices to run their business. To run business with ease, companies and corporations utilize local resources like manpower, raw materials, water, etc. from areas around their operation. In the bid to extract maximum productivity and profits, these resources at times can be used unfairly and irresponsibly.

The Indian Government introduced the Companies Act in 2013 to put an end to this wrongdoing. As per this act, companies above a definite size must compulsorily extend 2% of their profits towards being socially responsible in the society they operate. Protection of the environment, provision of quality education for underprivileged children, and women's employment are some of the initiatives that have come in place since the prevalence of the Companies Act. The company’s leadership ensures that all of this is being duly taken care of.

Governance: How does a company’s corporate governance impact investors?

As an investor it is wise to invest in companies that follow corporate governance. This is because the transparency in conduct and integrity of companies plays a major role in the profit-generating capacity of the company. Companies that are adhering to market regulations and compliances have more prospects for steady and sustainable growth.

Why is EGS investing important?

• Sustainability: ESG as a parameter indicates that the companies are ethical and sustainable and are beneficial for the society and environment. 
• Brand Loyalty: ESG-centric companies have a higher brand loyalty that translates into higher profits which eventually becomes beneficial for the investors.
• Multilevel Effect- Increased investments in the ESG driven companies will lead to a domino effect of betterment in the world we live in.
• Improving Quality of Living - A company that is socially aware, keeps its employees and customers happy, is also likely to perform better. Through ESG investing, the world can be made a better place.

What are the advantages of ESG investing?

• ESG investing is a holistic way of investing where you can be assured that the companies you are investing in are ethical
• ESG helps companies achieve better top-line growth. This means returns are attractive for you
• Companies with a strong ESG factor are less likely to get caught up in government and regulatory scrutiny
• A growing significance of ESG means you will have a broader range of companies to choose from
• As more and more investors choose ESG investing, it can force unethical companies to become more ethical in their practices

What are the disadvantages of ESG investing?

• There is no set definition for ESG. This means that ESG investing can mean different things to different people. You will need to do thorough research before investing in an ESG fund 
• It may require professional advice. You may need to consult an expert to understand whether a company meets ESG criteria 
• There is a fear among the investment community that ESG investing has prompted an increase in greenwashing. This is a marketing strategy that companies portray to be more environment friendly than they are 
• There is no guarantee that your ESG investment will outperform an investment in companies that are not ethical. For instance, oil companies may still beat your ESG investment during a positive market condition

What ESG investment options are available in India?

Invest in an ESG fund: An ESG fund is a professionally managed mutual fund that invests in companies with strong ESG factors. It reduces the need for you to do your research. Alternatively, you could hire an investment advisor to make ESG investments on your behalf. However, you need to be clear with your intentions since there is no definition of ESG. You could also do your research and invest in shares and bonds of companies with strong ESG factors.

How to identify and evaluate ESG-friendly funds and stocks?

ESG companies can be identified through various ESG metrics. These ESG metrics are qualitative and quantitative and provide a holistic assessment of the company in terms of environmental friendliness, social awareness, and corporate social responsibility. By keeping track of this, companies can monitor their growth towards building a sustainable business.

For investors, ESG metrics can play an important role in making their investment decisions. The metrics that investors need to look for while investing in ESG-compliant companies are:

• Environmental Metrics: Greenhouse gas emissions, energy conservation, water treatment and usage, waste treatment
• Social Metrics: Labor practices, workplace diversity, community development, employee engagement, employee retention rate
• Governance Metrics: Board diversity, executive compensation., ethics and compliance, company value

Additional Read: Things You Need to Know Before Investing in ESG Funds

Should you include ESG investments in your portfolio?

ESG investing is picking up steam worldwide for its humane investment methodology. However, that does not mean it has no pitfalls. You need to be careful while choosing funds or companies for your ESG strategy. There may be companies that are not 100% honest about their practices. Despite its pitfalls, ESG investing can be lucrative and ethical.