We are living in the time of “the conscientious consumer,” with more money flowing into sustainable and socially conscious companies than ever before. Investors are signaling that they want to do good with their money by investing in companies that share their values. This interest has spawned a rapidly growing type of investing known as Environmental, Social, Governance, or ESG.
For advisors, ESG presents big opportunities for new business. An investment trend that started with Millennials and women, ESG now appeals to the mainstream of individual investors. As of 2020, ESG made up over one-third of the total investment pool in the U.S. and has grown over 50% since 2016, according to the Forum for Sustainable and Responsible Investment. In 2021, according to Refinitiv Lipper, a record $649 billion flowed into ESG-focused funds worldwide through Nov. 30, up from the $542 billion and $285 billion that flowed into these funds in 2020 and 2019, respectively.
What was once a type of investment believed to necessitate a sacrifice of returns in exchange for ethical values is now seen as a lucrative strategy for mitigating risk and identifying niche opportunities for growth.
But ESG is not without its challenges. In addition to learning a new vocabulary—ESG investing is loaded with acronyms—advisors need to evaluate new criteria when doing due diligence on investments and they need to match client preferences with a dizzying array of products. But most challenging is the need to separate the truth from the tsunami of “greenwashing” that has clouded ESG investing.
In general, Environmental criteria includes carbon footprint, natural resource management, pollution, and environmental stewardship. Social criteria includes the ways in which a company treats its employees, partners with suppliers, serves its customers, and interacts with its community. Governance criteria includes executive diversity and pay, transparency, and shareholder rights.
Beyond these general guiding principles, there are no standardized regulations or definitions of these relatively subjective criteria. While many companies take ESG principles seriously, the lack of regulatory oversight combined with the rapid growth of ESG investing inevitably leads to “greenwashing.”