Are you the kind of person that considers factors such as fair-trade, organic, black-owned and even eco-friendly when purchasing a product or service? If you are, then you should start placing similar factors on the stocks you purchase or as an addition to your portfolio. You should consider ESG investing.
ESG (Environmental Social Governance) investing involves putting sustainability into consideration as you assess your expected returns. Sustainability is measured in the form of an ESG score or criteria, which are factors that reflect a company’s contribution and performance towards ESG. The ESG score or criteria are as follows:
Environmental: How does an organisation contribute to and perform on environmental challenges such as greenhouse emissions, pollution, waste, climate change and deforestation.
Social: How does an organisation treat its employees, shareholders and stakeholders in terms of diversity, health and safety, product misselling and human capital management, among others.
Governance: How is an organisation governed, concentrating on tax practices and strategy, executive remuneration, corruption, board structure and diversity, among others.
Apart from being socially responsible and building an ethical portfolio, there has been numerous evidence revealing that ESG investments have similar returns as conventional investments and also have less risk. More recent studies, including those conducted during the pandemic, have also shown that in a bearish market, ESG stocks remain very resilient, thus making them a good consideration to add on to your portfolio.
Here are other reasons to consider adding ESG stocks in your portfolio:
1. Outperformance and High Return
In line with my own research that I conducted for my master’s thesis, where I looked at the impact of ESG scores on expected stock returns, more studies have continued to prove that ESG stocks yield higher returns and also outperform conventional stock.
Companies that started following this practice and have attained high ESG scores are currently reaping the benefits and are strong financially. In order to stay competitive, more companies are now beginning to incorporate and adhere to ESG metrics. Potential investors can place confidence in ESG stocks because they make a company stand out from competitors, therefore attracting more investors and thus minimizing risk and increasing returns in both the short and longer term.
2. Cheaper Right Now
There are misconceptions that “doing good” is more costly. While this might be true when purchasing a product or service, it is different when purchasing ESG stocks for future gains. The word from investment managers is that ESG stocks are relatively inexpensive right now compared to what they will be in 10 years. A snippet of this was seen during the pandemic, when companies with good ESG scores attracted many investors, causing prices to gap and making them costly.
3. Low Risk
During the pandemic, while traditional stocks were struggling to survive, ESG stocks had stronger performances. Further, research by Morgan Stanley found that there were lower downside risks for ESG funds when the financial markets were turbulent in 2008, 2009, 2015 and 2018, compared to the traditional funds, implying that non-ESG stock have a higher loss potential. While considering causes that may be meaningful to you as an individual, finding and investing in a company that aligns itself with causes that are similar to yours, with the assurance of low risk, is a win-win.
4. Younger Generation Influence
Due to the influence of social media and exposure, we have seen changes in the way we live, with people being more consciously aware of and caring for the planet, improved employee-employer relationships, andmore people wanting to work for companies that pay attention to diversity, which are all a sum up of what ESG is about. The younger generation is paying close attention to these attributes and are closely monitoring and investing ESG stocks. ESG investing is growing faster as the world continues to evolve making this the right time to start investing in them.
5. ESG Is Here To Stay
There have been numerous investing trends over the years that have come and gone, but those that touch on sustainability are here for the long-term. More people are now paying close attention to practices undertaken by companies and hence driving these companies to embrace and invest in ESG initiatives. It is therefore ideal to start thinking about adding these factors to you stock portfolio both in the long- and short-term.