Environmental, Social and Governance Criteria or ESG Investing
ESG criteria is a fast emerging idea that influences the investment decisions of a socially conscious investor. ESG stands for Environmental, social and governance. ESG funds are portfolios of equities and/or bonds for which environmental, social and governance factors are integral part of investment decisions. These are a set of standards that indicates the ethical impact and sustainable practices of an entity. ESG investing is normally are offered through ETF and has become a most looked after investment option among conscientious young investors. Sustainable investing, responsible investing, impact investing and socially responsible investing are alternate names of ESG investing.
Environmental criteria analyze the company's concerns on environmental issues and steps taken to preserve and protect nature. Social criteria assess the relationship between the company and its commitment towards its employees, suppliers, customers and the societies where it operates. Governance examines the corporate governance standards covering the leadership, remuneration, audits, and internal controls, protection of shareholder rights, timely payment of taxes, proper disclosures and timely publication of financial results. Environmental, social and governance criteria critically analyze impact of the operations of the company on climate change or carbon emissions, exploitation of nature, management of environmental risks, conservation of water, pollutions control methods, anti-corruption practices, protection of human rights, gender equality, constitution of the Board, social commitment, corporate responsibility, accuracy and transparency in accounting etc. Thus, ESG criteria indirectly indicate an entity’s principles, ethics and sustainable practices.
The acceptable set of ESG criteria may vary from investor to investor as expectations and aspirations vary from investor to investor. But the expectations of investors prompt firms to focus on their ESG practices. There are companies that publish annual review on their ESG approaches. JPMorgan Chase, Wells Fargo and Goldman Sachs are examples of such companies. To find place in an ESG investing portfolio, a company must pass stringent tests covering governance and sustainability practices. An ESG portfolio will consists of securities having high ESG scores. Companies following unethical practices, poor governance standards, bad management practices etc will not find place in such a portfolio. For investors, these investment offer better return as the companies have good risk management practices and chances of government penalties, strikes etc are on lower side. ESG funds provide an opportunity to investors to have reasonable returns while supporting social causes.
ESG investing starts with measurement of the ESG score of a company and comparing the result with that to peers. This rating provides an idea of the ESG standards of a company. This rating is highly cost effective and provides an easy to understand rate about the ESG practices of the company. The disadvantage is that the rating provides only a picture of the current position. Change in management and business policies can alter the ESG rate of a company drastically. Hence an ESG fund manager needs to be alert in observing and analyzing the changes happening at the company on an ongoing basis. Over a period, the methods of rating will mature and evolve as a more forward looking measure. In such a scenario, companies with good ESG rates will command a premium in valuation as indicated in studies.
AvendusIndia ESG fund was the first ESG fund launched in India.
