What is Sustainable investing?

It’s referred to in many different ways. Sustainable investing. ESG investing. Responsible investing. Ethical investing. But what exactly is it?

Typically, sustainable investing is the umbrella under which responsible or ESG investing sits as an investment strategy. And although ESG and sustainability are being used far more frequently in our everyday vocabulary, as investment strategies they’ve been around for decades.

What is Sustainable investing?

Sustainable investing is really about assessing long-term value, based on not only financial factors but also the appropriate non-financial factors that may influence an investment. These factors are commonly referred to as ESG factors.

ESG describes three principal factors around how a company runs its business – Environmental, Social and Governance

  • Environmental factors – a company’s impact on the environment, such as its carbon footprint, how it manages waste and energy efficiency.
  • Social factors – generally reflected in a company’s social and labour policies and its history of complying with these, including employee health and wellbeing, supply chain labour standards and customer relationships.
  • Governance – relates to how a company makes decisions like Board appointments, internal processes such as anti-bribery and corruption avoidance, and compliance with regulatory standards.

These three factors essentially help investors identify companies that are well positioned for the future. They can then choose to avoid those which may underperform or fail based on activities that could signal a risk, or influence these companies to become more sustainable.

By considering the ESG issues that are important to you and investing in companies that are addressing these issues, investors are also undertaking an act of corporate preservation, helping to protect the future of a company1.

Has COVID-19 increased our awareness of ESG factors?

Australia is at the forefront of the popularity of sustainable investing. Of the $2.25 trillion invested in professionally managed assets, 44% is in responsible investments2, mostly from institutional investors.

However, the latest research from RIAA released in March 2020, indicates two thirds of Australians they spoke to will consider investing into ethical companies, funds or superannuation funds in the next five years.

RIAA’s research shows that people’s awareness of corporate responsibility is increasing3. And the COVID-19 pandemic has, more than ever, emphasised how societal wellbeing is intrinsically linked with business and the economy.

Increasingly, many investors want to assess and measure companies’ progress in addressing ESG risks4 and will favour companies that demonstrate a commitment to establishing a more inclusive, sustainable and resilient operating environment.

Many Australians also believe the finance sector has a significant role to play in generating positive social, environmental and economic outcomes for the country5, and this is likely to play out through innovation within sustainable investing. Not only do many investors believe companies that apply corporate ESG practices tend to enjoy higher profitability and may therefore be better long-term investments6. But companies and their shareholders are increasingly looking at a broader range of measures of success beyond the sole aim of creating short-term profit. Their success is now defined by how well they are prepared for and respond to issues and events, such as COVID-19.

Benefits of ESG investing

Long-term performance

Over time sustainable investing has evolved from an early focus on using negative screening to exclude companies based on ethical and religious beliefs or specific biases.

In the past, negative screening had been seen to hinder investment performance because it restricted the universe of companies available for investment and ignored companies that might otherwise have been a sound choice in terms of profitability7.

By considering ESG, sustainable investing is now more inclusive and integrative. It’s about identifying good companies not just bad ones – looking for those leading the way in business best practice for their industry. Taking a positive rather than negative focus on companies helps find those less likely to face financial risks such as fines, lawsuits, and reputational damage8.

And it appears, investors are starting to agree. Their concerns about the performance of sustainable investments have reduced significantly since 2017. The latest RIAA research shows 67% of people surveyed now believe responsible banks perform better over the long term and 62% believe the same of superannuation funds9.

Put your money where your values are

Investors themselves are driving innovation, eagerly seeking products and solutions better tailored to their interests.

The impact of digital disruption and the momentum from Millennials is also helping drive transparency around sustainable investing10. They’re keen to understand the environmental and social impact of their money because they recognise they’ll probably live long enough to experience the consequences of their actions.

Millennials embrace technology and the immediacy it brings, with news and information about global issues quite literally at their fingertips, and their appetite for having a voice through social media continually increasing. Improved transparency is also impacting the speed at which issues are exposed, with the rate at which immaterial issues are now becoming material accelerating rapidly11.

Therefore, using the power of money to influence companies to undertake good ESG practices and withholding it from those companies who don’t, will hopefully encourage more companies to address ESG concerns and opportunities in their business activities.

A few words of caution

Don’t forget your investment goals

A good investor will have investment goals and clear timeframes to ensure they’re able to grow their wealth accordingly. There are an increasing number of investment options and products that incorporate sustainability, however while adopting ESG factors into an overall investment strategy can be beneficial, it should be balanced with other important considerations to ensure the investment aligns with your goals and circumstances.

Do your homework

Many investors don’t know how to get started with sustainable investing. The key is finding the right tools to identify those companies or investments that consider their impact on the environment and demonstrate good governance and social standards. Be careful of companies using clever ‘marketing spin’. It’s possible to create a strong brand around being socially responsible without actually being socially responsible.

Good advice and professional investment management can help avoid making a bad decision also.

Sustainability and ESG investing is certainly a growing trend and one that’s set to evolve further. As the world becomes more socially aware, doing the right thing will become less of a ‘nice to have’ and more of a necessity for companies to be successful.
 

Next read: Sustainable investing with BT

 

References:

1 ESG investing comes of age https://www.morningstar.com.au/credit/article/esg-investing-comes-of-age/201652
2 Responsible Investment Association of Australasia Benchmark Report 2019 https://responsibleinvestment.org/wp-content/uploads/2019/07/RIAA-RI-Benchmark-Report-Australia-2019-2.pdf
3 From Values to Riches 2020, Responsible Investment Association of Australasia https://responsibleinvestment.org/wp-content/uploads/2017/11/From-values-to-riches-Charting-consumer-attitudes-and-demand-for-responsible-investing-in-Australia-2017.pdf
4 ESG investing comes of age https://www.morningstar.com.au/credit/article/esg-investing-comes-of-age/201652
5 From Values to Riches 2020, Responsible Investment Association of Australasia https://responsibleinvestment.org/wp-content/uploads/2017/11/From-values-to-riches-Charting-consumer-attitudes-and-demand-for-responsible-investing-in-Australia-2017.pdf
6 Morgan Stanley Institute for Sustainable Investing Report 2019 https://www.morganstanley.com/pub/content/dam/msdotcom/infographics/sustainable-investing/Sustainable_Signals_Individual_Investor_White_Paper_Final.pdf
7 ESG and sustainable investing: a guide https://www.morningstar.com.au/learn/article/esg-and-sustainable-investing-a-guide/199556
8 ESG and sustainable investing: a guide https://www.morningstar.com.au/learn/article/esg-and-sustainable-investing-a-guide/199556
9 From Values to Riches 2020, Responsible Investment Association of Australasia https://responsibleinvestment.org/wp-content/uploads/2017/11/From-values-to-riches-Charting-consumer-attitudes-and-demand-for-responsible-investing-in-Australia-2017.pdf
10 From Values to Riches 2020, Responsible Investment Association of Australasia https://responsibleinvestment.org/wp-content/uploads/2017/11/From-values-to-riches-Charting-consumer-attitudes-and-demand-for-responsible-investing-in-Australia-2017.pdf
11 World Economic Forum https://www.weforum.org/press/2020/03/world-economic-forum-releases-framework-to-help-business-identify-esg-factors-for-long-term-resilience/

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