2021 has been a year marked by uncertainty, but also by conviction – and as a result, many investors are looking to align their portfolios with their principles.
Values-based investing is not an overnight sensation. According to US SIF: The Forum for Sustainable and Responsible Investment, socially responsible investing (SRI); environment, social and corporate governance (ESG) investing and impact investing assets grew from $3 trillion in 2010 to $12 trillion in 2018 to $17.1 trillion by the start of 2020.
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The trend shows no signs of subsiding anytime soon. Financial industry research further indicates that 85% of the general population and 95% of the millennial population are interested in sustainable investing.
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There is a wide variety of values-based investing approaches and strategies. But deciding how to incorporate them into a portfolio depends on a number of individual factors.
SRI, ESG and Impact Investing: What's the Difference?
When it comes to choosing values-based investments, investors and their advisors need to understand the differences among SRI, ESG and impact investing:
- Socially responsible investing (SRI) entails screening investments to exclude businesses that conflict with the investor's values. SRI dates back to John Wesley, the founder of the Methodist movement, who urged his followers to avoid investing in "sin stocks" that generated profits through alcohol, tobacco, weapons or gambling. Common SRI exclusions in modern times include fossil fuel producers and firearms manufacturers. SRI is the simplest (and often the least expensive) values-based investing approach.
- Environmental, social and corporate governance (ESG) investing focuses on companies making an active effort to either limit their negative societal impact or deliver benefits to society (or both). The Sustainability Accounting Standards Board (SASB) aims to standardize the ways companies report on ESG criteria to better inform investors, including determining which ESG issues companies should prioritize based on sector and industry. An example of an ESG investment might be buying stock in a technology company that converts one of its data centers to use renewable energy, resulting in cost benefits as well as a positive effect on the environment.
- Impact investing is characterized by a direct connection between values-based priorities and the use of investors' capital. These funds not only report on financial performance, but they also try to generate and quantify a positive societal impact — for instance, number of schools built, measures of economic activity in a low-income community, or reduction of carbon footprint by X units. Impact investors are often able to deploy funds in service of causes that are not directly addressed by the public financial markets, such as community development and poverty alleviation. These funds also tend to have more influence on the execution and management of portfolio companies than do other investment vehicles.
It's important to note that impact investing refers to private funds, while SRI and ESG investing involve publicly traded assets. For investors who seek transparency about the specific ways their capital is being applied to a particular cause, impact investing might be a more attractive vehicle than ESG or SRI. Determining the direct impact of money invested in a broadly diversified mutual fund can be challenging.
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Additionally, public companies still have the ultimate mandate of generating shareholder value through stock price appreciation, which may conflict with values-based priorities.
That said, due to their private nature, impact investing vehicles tend to be less easily accessible than publicly traded options.
One Size Doesn't Fit All
For investors looking to explore values-based investing, the first question to ask is "Which values do you want to prioritize and reflect in your portfolio?" Is the investor more concerned with a company's environmental footprint, or their social footprint?
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Values are deeply personal, and there are a number of ways to approach values-based investing. Fortunately, the variety of vehicles and strategies available means that investors and advisors can customize a portfolio to suit their individual priorities and goals – while also taking into consideration factors like volatility, liquidity and income requirements.
Investors who are new to values-based investing may also want to take a gradual approach to adjusting their portfolios. A good place to start is by making values-based changes to equity allocations, and then reflecting after a year or two: Are the returns in line with your expectations? Is aligning your investments with these values still a priority?
Values-based investing can be defined in different ways depending on whom you ask. But understanding the fundamental distinctions between SRI, ESG and impact investing can help investors and their advisors construct a portfolio that reflects their specific goals and beliefs.
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FAQs
ESG looks at the company's environmental, social, and governance practices alongside more traditional financial measures. Socially responsible investing involves choosing or disqualifying investments based on specific ethical criteria. Impact investing aims to help a business or organization produce a social benefit.
What is the difference between SRI ESG and impact investing? ›
It's important to note that impact investing refers to private funds, while SRI and ESG investing involve publicly traded assets. For investors who seek transparency about the specific ways their capital is being applied to a particular cause, impact investing might be a more attractive vehicle than ESG or SRI.
What is the difference between sustainable investing and ESG investing? ›
It's a measured assessment using benchmarks and metrics. So, sustainability is a broader concept that encompasses environmental, social and governance considerations, whereas ESG specifically refers to a set of criteria within these three areas that are used to evaluate the performance and behaviour of companies.
What is the primary difference between ESG and prior conversations like socially responsible investing SRI or corporate social responsibility CSR? ›
CSR vs ESG
CSR practices are usually self-regulated and can have a lot of variation. It is a more qualitative measure and can be challenging to define. ESG, on the other hand, provides investors with a measure they can use to decide which companies to invest in.
What is the difference between ESG integration and impact investing? ›
ESG investing may primarily focus on mitigating risk through comprehensive ESG analysis and negative screening, while impact investing may involve additional risk considerations related to the achievement of specific impact goals.
Is SRI the same as ESG? ›
The terms environmental, social, and governance (ESG), socially responsible investing (SRI), and impact investing are often used interchangeably, but have important differences. ESG looks at the company's environmental, social, and governance practices alongside more traditional financial measures.
When did SRI become ESG? ›
Over time, SRI steadily evolved to look much like today's corporate social responsibility (CSR) and was focused primarily on social issues such as human rights and supply chain ethics. However, it wasn't until the 1990s that ESG considerations started to appear in mainstream investment strategies.
How do you tell if an investment is ESG or not? ›
Financial portals and brokerage websites may also contain ESG ratings and analytics. By using ESG scores in combination with other financial and nonfinancial factors, investors can better identify companies that align with their values and contribute to a more sustainable global economy. MSCI, via Internet Archive.
What is ESG investing in simple terms? ›
Environmental, social, and governance (ESG) investing is used to screen investments based on corporate policies and to encourage companies to act responsibly. Many brokerage firms offer investment products that employ ESG principles.
Is impact investing better than ESG? ›
While impact investing may have higher risk and lower financial returns but deliver significant social and environmental benefits, ESG investment may have reduced risk and the possibility for outperformance. While choosing a strategy, investors should consider their risk tolerance and investing goals.
While ESG investing operates as a framework to assess material risks and opportunities for firms, impact investing is an investment strategy that seeks to first and foremost create a specific, measurable social or environmental benefit.
Why do investors prefer ESG? ›
Investors increasingly believe companies that perform well on ESG are less risky, better positioned for the long term and better prepared for uncertainty. Companies that realign to the stakeholder capitalism agenda may have a competitive advantage over those that try to return to business as usual.
What is the difference between ESG and sustainable investing? ›
ESG refers to a set of criteria used to assess a company's environmental, social, and governance impact. In contrast, sustainability is the capacity to maintain or endure, focusing on the interplay of environmental, social, and economic factors.
What is the difference between Sri and ESG investing? ›
SRI is a type of investing that keeps in mind the environmental and social effects of investments, while ESG focuses on how environmental, social and corporate governance factors impact an investment's market performance.
What is the difference between impact and sustainability? ›
In short, the difference between impact and sustainability lies in the core focus of the organisation. An impact organisation seeks to solve a social or environmental challenge with its products and services, while a sustainable organisation manages its impacts, but its primary goal is economic success.
Is ESG part of impact investing? ›
No, impact investing is not equal to ESG investing, although they are often used interchangeably.
What does SRI stand for in impact investing? ›
SRI often stands for socially responsible investing, but there is no industry-wide definition. The acronym can also stand for sustainable, responsible and impact investing, social impact investing or sustainable investing.
Is impact investing and sustainable investing the same? ›
Although the economic, social and environmental goals of both types of investing are the same and complement each other, their processes and applications differ. While the former emphasizes measurement, the latter focuses more on maximizing a positive impact.
What is responsible and impact investing SRI SRI can best be defined as? ›
Socially responsible investment (SRI) refers to approaches that apply social criteria and environmental criteria in evaluating companies.
