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An investor movement has gained momentum these last few years. Once the province of religious and not-for-profit organizations, socially responsible investing (SRI) has grown to encompass a much broader set of principles, incorporating environmental, social and governance (ESG) behaviors as well as ultimate societal impact. But there is no one set of rules for investors to follow as individual preferences can be quite unique. Additionally, investors can be confused by the myriad terms, such as Socially Responsible, ESG or Impact Investing, which all represent slightly different ways of aligning one’s personal values and investments. In this piece, we will define terms, describe the market and discuss whether the alignment of one’s values with his or her investments can still provide attractive financial returns.
SRI or Socially Responsible Investing is primarily done through an asset screen, excluding companies that do not align with an investor’s values. Typically, this screen narrows an enormous universe by excluding alcohol, tobacco, energy, casino and defense/weapons companies. The main purpose of SRI is to generate market-like returns while avoiding these negatively screened companies.
ESG or Environmental, Social and Governance investing takes SRI a step further, seeking to invest in companies that meet strict ESG criteria and are making an effort to better society. However, the impact may not be directly through the company’s core business. For example, an ESG candidate might be a technology company with a diversified board, operating in an energy efficient building while acting as a good community partner. ESG stock and bond investments should generate market-like returns while investing in companies embracing positive corporate and societal norms.
Impact Investing is a more focused form of ESG and SRI investing and can be implemented through stocks, bonds and private equity. The main purpose of Impact Investing is to generate a positive societal or environmental outcome while hoping to return a reasonable amount on your investment. For example, “Green” bond issuance proceeds may be for the development of water infrastructure in a community; another example would be investing with a private start-up technology company that is focused on improving access to educational tools for inner-city youth.
A common question is, “Will Impact Investing returns be lower than market returns?” The answer is not clear as numerous studies contradict each other, while one investor’s definition of return in this space may be different than another’s. Overall, ESG, SRI or Impact Investing can generate market-like returns over an economic cycle but can have longer periods of sustained underperformance, due to the type of companies the strategies avoid.
If a client makes an investment to impact the environment or society, the impact (if it can be quantified) plus the cash return will hopefully beat the market. For example, it is difficult to quantify how much a new water system in a rural community can improve local quality of life and crop production. An investor may receive 5% on his or her investment but would not see the overall societal impact in cash terms.
Unfortunately, metrics around measurability, transparency and accountability have been difficult to construct and calculate. Not-for-profits such as the Climate Bonds Initiative and Sustainalytics are helping to improve transparency. They are helping by subjecting bond issuance to actual eligibility requirements and getting green certification. Unfortunately, all standards are currently voluntary, meaning all “Green” bonds may not actually be used for green purposes.
There are currently $25 trillion of “impact” assets under management with $8.7 trillion focused in the U.S.1 This makes up nearly 22% of total assets managed in the U.S! We expect these numbers to grow as the idea gains further traction.
Millennials are another factor contributing to the growing focus on Impact Investing, as 67% state that environmental, social and governance factors are important to investment decisions.2 It is also important to note that most publicly traded companies’ annual reports now include an ESG report. Thus, it is becoming more common for ESG factors to be incorporated not only in investment decisions but how investors view corporations.
There are numerous ways to get involved with ESG, SRI or Impact Investing and the number of investment opportunities is growing. One’s involvement, though, will be based on individual preferences, the impact one would like to make and the financial returns needed.
ESG topics are not just a trend or niche investment space anymore but are becoming more important to individuals and institutions globally. ESG, SRI and Impact Investing are mainstream and it is likely that you’ve heard of one of these topics within the last year. It’s no longer a question of, “How do I find an opportunity to invest this way?” but more, “How do I choose from all the opportunities?”
Our clients are pleased to learn that 95% of the stocks in Market Street’s U.S. Equity Fund already meet ESG criteria. We know the process of researching, due diligence on managers and choosing investments is not easy. Based upon our experience, we know the sheer number of opportunities can be overwhelming. If an investor is looking to gain some exposure in this space, he or she might consider allocating a small portion of their portfolio to get a better understanding of the industry. This allows for an investor to begin focusing on impact while not disrupting one’s overall asset allocation and maintaining similar return expectations.
We recognize how personal these types of investments can be. While we continue to research, talk with managers and monitor investments in the space, we also want to hear from our clients! We want to know what impact goals you may have and would love the chance to discuss how we can help you achieve those goals.
If you are interested in reading more about this topic, please visit the Global Impact Investing Network’s website at: www.thegiin.org.
Disclaimer:
This presentation has been prepared by Market Street Trust Company. The views expressed herein represent opinions of Market Street and are presented for informational purposes only. They are not intended to be recommendations or investment advice and do not take into account the individual financial circumstances or objectives of the investor who receives them.
Certain statements included in this presentation constitute forward looking statements. Forward looking statements are not facts but reflect current thinking regarding future events or results. These forward looking statements are subject to risks that may result in actual results being materially different from current expectations.
Past performance (before and after taxes) does not guarantee future performance. There is no assurance that Market Street Trust Company investments will achieve their objectives, or that they will or are likely to achieve results comparable to results shown herein, or will make any profit, or will be able to avoid incurring losses. Exposure to foreign currencies may cause additional fluctuation in the value of any investment. Each investor must assess the suitability of an investment, the investor’s tolerance for risk and the impact on the investor’s diversification strategy. This presentation does not constitute an invitation to buy or an offer to sell securities, or any other products or services.
This is intended as general information only. Investors maybe required to meet certain criteria under the securities laws in order to qualify for certain investments. Any discussion of U.S. tax matters is not intended and cannot be used or relied upon for the purpose of avoiding U.S. tax-related penalties. Please visit our website for additional information concerning Market Street’s investments and investment updates. As always, please feel free to contact us if you would like to learn more about our investment program.
