Over the past few years, an approach to investing known as ESG has become increasingly popular with institutional and individual investors alike. The latest data from MSCI shows that assets in ESG investments grew 1,265% from 1995 to 2016 and 33% between 2014 and 2016 alone, with an ending value of $8.7 trillion invested at the end of 2016. Yet, in spite of the media attention garnered by these strategies, many investors are not yet familiar with this type of investing.

So, what is ESG? ESG investing is a method for evaluating how a company’s environmental, social, and governance practices may impact its performance. ESG is one of many types of “sustainable investing,” which is a term that describes investments that, while seeking positive returns, also consider and measure the long-term impact that business practices have on society, the environment, and the financial performance of the company itself. There are research firms that evaluate companies based upon these specific criteria, including MSCI, Sustainalytics, Thomson Reuters, Bloomberg, and Morningstar. Here are some examples of how the criteria is determined for each of the categories:

• Environmental: ESG evaluators look at issues, such as how a company sources its raw materials, how their waste is disposed of, whether its product packaging is disposable, and its carbon footprint.
• Social: Labor practices are evaluated, including the health and safety of workers, fair labor practices, diversity, and the impact on local communities.
• Governance: Researchers look at how well a company manages itself, including management structure, executive compensation, internal controls, and the balance of power between the board of directors and shareholders.

If all of this sounds complicated, it is. But the good news is that more and more companies are helping to make it easier by publishing sustainability reports. For example, in 2011, only 20% of S&P 500 companies published these reports, and the number jumped to 81% by the end of 2015. Why? Because this trend is not something that is likely to go away. Instead, it is likely this criteria will regularly be incorporated into research firms’ processes of analyzing investments. Several factors are driving the increased interest in these types of investments, including: increased interest from millennial and female investors, demand from investors for increased corporate responsibility, and greater recognition from government and industry organizations.

It has been stated by proponents that sustainable investing is not about changing the world but about understanding how the world is changing. It is not hard to see the merit in this, given the rise in environmental concerns, such as disruptive and unusual weather patterns, droughts, and air pollution globally. Also, investors have a heightened interest in social and corporate governance because of the financial harm caused to many firms in the past due to poor reporting standards, limited transparency, and even corruption. Companies who are leaders in ESG employ a proactive approach in screening for the problems that could cause financial harm in the future. There is recent research that suggests that companies with strong ESG scores may enjoy better financial performance over the long-term.

As with any investment strategy, only time will tell how well it will perform, but ESG is one way for investors who care about sustainability to express their views with a well-diversified portfolio. Since it is relatively new and more complex for individual investors, a professional can help you decide if it is right for you and how to implement it to help you meet your goals. Our team at CNB Wealth Management is well-versed in ESG and stands ready to answer any questions you may have about this and all of your financial planning needs.

Laurie Haelen is a Senior Vice President, Wealth Solutions with CNB Wealth Management. She may be reached at (585) 419-0670, ext. 41970 or by email at [email protected].