ESG or environmental, social and governance-related ETF strategies are more than a feel-good gimmick as these types of investments can also track forward-thinking companies to potentially enhance a portfolio’s overall returns.
On the recent webcast, ESG Skeptic? Maybe We Can Change Your Mind, Richard Cea, Head of InsightShares Powered by UBS InsightShares, started off by explaining that ESG refers to Environmental, Social, and Governance and the incorporation of these factors into the investment making decision with the goal of measuring the sustainability and ethical impact of an investment in a business or company. Specifically, the E measures the impact a company is having on the environment, the S analyzes a company’s interaction with its employees, vendors, and the communities in which it operates, and the G focuses on the ownership and management structure of companies.
While there is no standard definition of what constitutes ESG, Cea explained that there are some overarching characteristics that help describe the ESG theme. For example, the Environmental aspect covers factors like sustainability, clean technology, climate change and natural resource management, among others. The Social aspect covers things like diversity, labor rights, human rights and employee relations. Lastly, the Governance aspect includes board independence, board structure, executive compensation and board diversity.
An increasing number of investors, notably among the younger demographic and socially conscious investors, is showing a greater inclination for ESG-related investments. According to UBS data, 39% of investors look to social investing globally, with 56% among ages 18 through 34.
Along with the global impact of supporting social investments, ESG themes also exhibit real portfolio effects. According to a recent MSCI study, companies with high ESG scores exhibited better financial performance. The researchers found that strong ESG scores showed high correlation to more competitive businesses, higher profitability and higher dividends. The companies with high ESG scores also exhibited better risk management, lower risk of severe incidents and lower tail risk.