What Is Sustainable Investing And How Can You Use It To Earn Higher Returns?
Sustainable investing can help you make a real contribution and tangible impact on the causes you care most about, while at the same time ensuring you get attractive returns on your investments. Combined with a well-diversified portfolio, it has the potential to radically transform how you approach investing.
Sustainable investing is a fundamental strategy that believes in investing in companies, businesses or stocks that are essentially socially, environmentally and ethically friendly. This can include companies promoting environmental sustainability, corporate justice, social justice and greater synthesis with the wider community. Most of these companies also actively take a stance against discrimination of all kinds, especially sexual and gender based.
In a way, sustainable investing prompts both investors and firms to consider intangible costs, such as those paid by the environment, community, goodwill and society as a whole while constructing their portfolios.
The main advantage of switching to sustainable investing is that companies which consider their social, environmental and community impact are proven to have higher goodwill and better profitability in the long run.
As highlighted by this article, higher ESG scores have a high correlation with better management and leadership at the board level. This in turn leads to increased customer loyalty and greatly enhances the overall image of the company, leading to higher trust in their stocks, and better returns.
Sustainable investing can further be categorized broadly into ESG investing, socially responsible investing and impact investing, Although these terms are often used interchangeably, they have some distinct differences, which can change the whole outlook and focus of the strategy.
ESG, which stands for environmental, social and governance, is a strategy that places considerable emphasis on a company’s policies, approach and contribution to these fields, along with the conventional financial metrics. Over the last few years, ESG investing has boomed, which has in turn driven companies to amp up their efforts in these sectors. This report looks at the advancements ESG investing has made over the last few years, and how it can usher in a new era for investment management firms.
Socially responsible investing, on the other hand, advocates a more active role in stock selections and portfolio designing, Investors following this approach usually add or remove stocks or investments following a set of specified ethical guidelines or priorities. The guidelines themselves can of course vary greatly depending on specific priorities, investment time horizon, personal values and so on.
Impact investing is a relatively new approach, and focuses on helping companies achieve a specific social or environmental goal or project, which will have tangible positive benefits for the community concerned. This can include establishing an educational or healthcare program, accessible micro-finance, housing, renewable energy and much more.
Given the nature of sustainable investing, it can vary widely from investor to investor and be very personal. The personal values and priorities of an investor, the short term and long term goals of the portfolio and the amount of finance available are just a few of the factors which may influence portfolio construction.
So how should you go about introducing sustainable investing to your overall portfolio?
A good rule of thumb would be to follow the below steps:
1) Assessing your current portfolio
2) Prioritizing your values
3) Investing for an impact
While assessing your current portfolio, you may be surprised to discover that you may have some sustainable investments already, even if you have not previously evaluated them using these parameters.
One reason for this could be that in the last few years, most companies overall are trying to improve their social and environmental impact, alongside their financial metrics. Hence a good proportion of the companies in your portfolio may have actively increased their ESG scores, in the time that you have included them.
This step would also be a good time to have a conversation with your investment manager or financial planner, to discuss changes in overall strategy, what other stocks you can include or remove and other doubts in general.
When it comes to prioritizing your values, remember that you don’t have to limit yourself to just one cause or aspect. In fact, it can be helpful to choose a few, both in terms of diversification benefits and also in order to be able to assess a company or stock more thoroughly.
These can be things like accessible healthcare and education, global warming, poverty alleviation, workplace inequalities, to name just a few. This is the time to also have a broad list of stocks or companies that meet these values, which you can further streamline and shortlist later on. However, it’s important not to spread yourself too thinly, or be too vague in this case, as that will significantly dilute the benefits of your sustainable investing.
The investing for an impact stage can be seen as the shortlisting or personalizing phase. One way to go about this is deciding whether you want to go with a strategy that includes and consolidates companies and investments that meet your guidelines and values.
Another approach can be to actively exclude or remove companies which differ greatly in values. Another way could be to start by choosing investments which make a tangible, measurable positive impact on the issues of your choice. A combination of these strategies can also benefit new investors who may wish to gradually learn more about sustainable investing before committing fully to any one approach.
This is also the stage where you may have to decide what extent of compliance with your specific guidelines can you reasonably accept. Will you only include companies which have an established track record of community service spanning years, or will you also include companies which have just introduced sustainability programs? What if a company chooses to focus on more than one area of service? What if they have discontinued a certain program, and are in the process of establishing a new one?
It is highly unlikely that all the companies or stocks that you choose will meet your exact guidelines, so it’s helpful to be clear about your margins right from the beginning. This will facilitate reasonable expectations about the direction of the companies, and stock performances.
You also need to have a clear idea of how to measure the progress and returns of your stocks and by extension, the particular programs or initiatives that your companies are involved in. This can be through number of people impacted, number of enrollments, number of units set up and so on.
As with any investment strategy however, it’s crucial to make sure your research is as comprehensive as possible, and talk to your investment manager regarding any additional information or doubts.
Your financial planner should strive to provide you with the necessary information and work with you closely to create a plan that suits your financial goals best. This strategy, along with the individual stock selections and portfolio as a whole need to be reviewed periodically, and updated as needed. Hence, even with sustainable investing, this process is quite iterative.