Sustainable Smart Beta Investing With Upside Potential

Exchange traded funds adhering to environmental, social and governance (ESG) investing principles are expected to see rapid growth in the coming years, but some of the group’s established options remain compelling for socially-conscious investors. That includes the iShares MSCI USA ESG Select ETF (NYSEARCA: SUSA), one of the oldest and largest ESG ETFs on the market today.

While the idea of socially responsible investing (SRI) is taking flight, many advisers and investors are still pondering the ability of these strategies to deliver comparable or better returns relative to traditional equity benchmarks. Still, more companies are noting the importance of ESG themes.

“The average S&P 500 firm cites ESG-related terms in earnings calls nearly twice as often as a decade ago, our text analysis of transcripts shows,” according to BlackRock. “Consumer staples, financials and health care lead the way. See the chart above. Meanwhile, regulation and investors’ desire to do good, mitigate risk or access niche market opportunities is stoking interest just as new benchmarks and products are making ESG investing more accessible across asset classes and regions.”

The socially responsible investing theme covers a wide range of investments. For instance, some funds shun the defense or fossil fuel industries while others exclude gun makers, alcohol or tobacco producers, or companies deemed unfriendly to their workers, shareholders or the environment.

Expanding ESG Options

The world of ESG ETFs is expanding to include assets beyond domestic large-caps, including small-caps, ex-US stocks stocks and fixed income. For example, the iShares MSCI USA Small-Cap ESG Optimized ETF (Cboe: ESML) debuted earlier this year.

The iShares MSCI USA Small-Cap ESG Optimized ETF tries to reflect the performance of the MSCI USA Small Cap Extended ESG Focus Index, which is composed of small-cap U.S. companies that have favorable ESG characteristics with characteristics similar to the MSCI USA Small Cap Index. Importantly, data suggest investors do not need to sacrifice returns with ESG strategies.

“We believe strong performance on ESG metrics can be a proxy for operational excellence: Companies and issuers that score highly tend to be more efficient in their resource usage—and more resilient to perils ranging from ethical lapses to climate risks,” said BlackRock. “The quality bias in these entities suggests a focus on ESG may offer some cushion during market downturns.”

For more information on socially responsible investment strategies, visit our socially responsible ETFs category.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.