Sustainable investment strategies have become popular with investors in recent years. As environmental and social issues have become more urgent, investors want to make a difference. Despite their popularity, many investors are unclear about how to invest sustainably. In this article, I’ll explain what sustainable investments are, and how to include them in an investment portfolio.
The history of sustainable investing
Investing with social goals in mind is nothing new. In the 1800s, the Methodist Church encouraged members to avoid investing in alcohol, tobacco, weapons, and gambling. In the 1960s and 70s, consumer activism drove renewed interest in aligning spending with personal values.
In 1971, the first socially conscious mutual fund was launched, and in 1986, a socially conscious fund made its first shareholder resolution. This marked a change from simply excluding ‘bad’ companies to pushing corporations to be better. During the 1990s, investors broadened the focus to including environmental factors.
These days, environmental, social and governance (“ESG”) factors are lumped under the label of “Sustainable Investing.” Environmental factors can include energy use, pollution, and farming practices. Social considerations include how the company impacts society and its community, product safety, and employment practices. Governance factors include accounting policies, executive compensation, board structure, and ethics.
How do sustainable investments work?
Sustainable investments are just like other investments in most ways. They can be stocks, bonds, or even real estate. So, what makes a stock or bond a sustainable one? Simply that the company issuing it is governed with the goal of making an environmental or social impact. Companies governed this way can deliver superior returns as well. The investment thesis is that they’ll spend less on fixing problems and on lawsuits and be better long-run investments.
The goals of sustainable investing are both aspirational and attractive to the public. This incentivizes companies to claim they are socially driven, while not necessarily living up to that promise. Finding companies that are both profitable and that truly make an impact is both art and science.
How the Pros Select Sustainable Investments
There are several different ways in which professional investment managers select sustainable investments:
- Negative Screening: Exclude stocks in certain industries or with certain unwanted revenue sources or practices. This is the most basic level of socially aware investing.
- Positive Screening: Look for stocks or industries with desired attributes and add them to the portfolio.
- Tilting: Use ESG factors to over- or underweight securities.
- Thematic: Focus on specific ideas or industries, like renewable energy.
- Impact Investing: Focus on the measurable impact the company is making on social or environmental issues.
While many funds may include the word ‘Sustainable’ in their label, investors need to do their homework as to how that fund executes its strategy. Some funds are merely ‘aware’ and may include social or environmental factors merely as an afterthought. Others are much more assertive, pushing to change the behavior of the companies they own. Also, one investor’s ESG goals may be different than another’s, so one sustainable fund will not be right for everyone. If you are going to invest with environmental or social goals in mind, you need to make sure the fund you’ve chosen aligns well with your values.
How sustainable investing works in an investment portfolio
Traditional investments focus on delivering superior returns and/or limiting risk. Sustainable investments have the social or environmental goals added in, which can increase costs and decrease diversification. This in turn can alter returns and increase risk. However, that doesn’t have to be the case. Sustainable investing can be compatible with investors’ financial goals, if done carefully. Costs and diversification can be improved by choosing the right fund strategies. Also, many people choose to mix sustainable investments with traditional ones, rather than just sustainable ones.
At Blankinship & Foster, we believe in Investing with Purpose. When the purpose for your investment portfolio includes aligning your values with your dollars, strategies such as sustainable investing can be part of your long-term investment plan. To learn more about how we can help you achieve your financial goals, contact us.