What does ESG mean when investing?
Significant events, such as the pandemic, climate change, Black Lives Matter, and other examples of social inequality, are dominating the headlines more and more these days. Social and environmental change is happening faster than ever. People are increasingly conscious of their impact and more people are making positive changes, such as recycling and using environmentally-friendly products. But have you considered how your savings, such as your pension or stocks and shares ISA, can make a positive contribution towards a more sustainable world?
ESG refers to environmental, social or governance (ESG) factors. Choosing a fund for your pension or ISA savings that considers ESG factors is a simple step you can take to make sure your savings are invested responsibly. As well as the impacts on society and the environment, how companies respond to issues such as climate change and the pandemic could ultimately impact investment returns. That means choosing a fund with an ESG approach could also be beneficial to the value of your savings – although there’s no guarantees.
What is ESG when investing?
This is when a fund manager – the person responsible for managing investments within a fund – considers ESG factors when assessing whether a company is worth investing in. Examples of ESG factors include:
Environmental – climate change, energy efficiency, waste and pollution, clean water and deforestation.
Social – labour standards, product safety, diversity and inclusion policies, data protection and privacy, and supply chain practices.
Governance – board independence and diversity, anti-corruption policies, shareholder rights, compensation structures and corporate behaviour.
Approaches to ESG
There are many different types of ESG approaches to investing – all with different names such as ethical, sustainable, responsible or impact. The approaches differ in terms of objective and criteria used, but broadly speaking they can be split into five categories:
1. ESG integration
This approach doesn’t have any set environmental or social objectives. However, it means ESG factors are considered in the investment decision-making process and the fund manager will use their shareholder power to engage with companies and use voting rights to influence positive changes.
2. Negative screening
These funds typically avoid investing in companies which don’t meet ethical or moral criteria, or established ESG standards.
3. Positive screening
This approach favours companies that have positive or improving ESG performance relative to their competitors.
4. Positive impact
Impact funds invest in companies that are actively engaged in activities that aim to deliver a measurable social or environmental impact alongside a financial return.
5. Thematic investing
These funds focus on specific themes, such as energy efficiency, sustainable agriculture, clean water, healthcare, and affordable housing.
These categories aren’t mutually exclusive, meaning more than one category could apply to a fund.
Why you might consider investing responsibly
Investing with an ESG approach generally reduces the number of companies a fund can invest in, which could impact performance. However, there’s increasing evidence that there’s a positive connection between a company’s performance and their approach to successfully managing ESG factors1, which in turn could have a positive impact on your savings. Remember though that past performance isn’t a reliable indicator of what might happen in the future.
And of course, investing with an ESG approach is contributing to a fairer, more sustainable world, and your savings can be aligned to your own ethical and moral beliefs.
How can I find out if my savings are invested using an ESG approach?
If you invest in a workplace pension scheme default fund (the fund you’re automatically invested in if you don’t make your own investment choice) then you may already be invested in ESG funds as many providers have committed to net zero carbon emissions for default funds.
If you have other savings, they're only likely to take into account ESG considerations if you've actively selected a fund that uses an ESG approach.
You can usually find out what ESG criteria your fund follows on its factsheet or Key Information Document. If you’re not sure if a fund uses an ESG approach, or if it’s designed to meet your own ESG objectives, you may want to speak to your financial adviser. If you don’t have one, you can find an adviser at the Money Advice Service, there may be a charge for this advice.
Contributing to a more responsible society
Many of us are already making changes in our day to day lives to support a fairer, more sustainable society. Considering whether your savings aligns to your moral beliefs is a simple, but often overlooked, additional way of supporting positive change.
The value of investments may go down as well as up. Investors may get back less than they invest.
Please see fund factsheets or Key Information Documents for details of fund-specific risks.
This article is for information purposes only. Reliance shouldn’t be placed on this information when taking individual investment decisions. If you need any help, please speak to a financial adviser. If you don’t have one, you can find one at on the Money Advice Service, there may be a charge for this advice.
12022 The growth opportunity of the century – Are you ready for the ESG change? Data source, PWC, 2020.