In today’s conscious investing, investors are constantly looking for companies that are built on sustainability. They yearn to understand the different aspects that contribute to the stability and continuity of the companies that they invest in. There is greater demand for businesses that survive severe impacts of any crisis and constantly incorporate Environment, Social, and Governance factors within their daily functioning.
Here, we will discuss ESG investing in detail and what investors should know about this new-age investment format.
What is the meaning of ESG Investing?
ESG investing can also be called sustainable investing. It is a blanket term for investments made in firms that adopt ethical practices to make profits. ESG investors don’t invest in stocks of companies that do not meet some of the environmental, social, or corporate governance standards. For instance, chemical companies causing heavy pollution or companies that have poor labor practices. ESG investing has slowly started gaining popularity around the world, as many investment funds have started adopting this model in recent years.
Understanding ESG Score – ESG score is a measurement parameter used to estimate the extent of a company’s environmental and socially sustainable actions. The score can range between 0 to 100 and weighs the performance average using the three key factors- Environment, Society and Governance. If the ESG score of a company is high, it indicates good performance through suitable measures around these three factors. A low ESG score is an indication that the company is unable to take appropriate actions on these factors and may undergo losses because of regulatory punishments, environmental crises, etc.
How did ESG Investing evolve globally?
ESG investing first began in the 1960s when it was called socially responsible investing. It began with investors avoiding stocks or industry investments related to business activities like tobacco production or the South African apartheid regime.
Although ESG investing is a nascent concept for Indian investors, there are nearly 3,000 ESG schemes available for investment globally. Many sustainability challenges have been observed for a few years, such as flood risk, the rise of sea levels, privacy threats, data security issues, demographic shifts, regulatory changes, etc. These, in turn, bring in new risk factors for investors. As companies started facing rising complexities on a global scale, investors started reevaluating traditional investment approaches and this gave rise to ESG investing.
Businesses across the globe have been focusing on their ESG disclosures for many years now. This has resulted in numerous third-party ESG data and rating providers.
How does ESG investing work?
ESG investing is quite a unique investing model where investors can select their investments based on the company’s environmental, social, and governance impact. There can be many approaches to ESG investing for retail and institutional investors where investors can look for specific investments that meet their sustainability criteria or exclude companies that may be in the high-risk grade. One of the approaches can be negative screening where investors do not invest in companies that do not meet the ESG parameters. Another approach to ESG investing can be actively scouting for companies specifically or funds that are centered on doing the research and including the prime candidates that meet the ESG parameters.
Reasons for impact investing via ESG
ESG investing, although a new concept in India, is being accepted fast by investors and is especially seeing an accelerated demand since COVID-19 crisis. This can be seen with the influx of ESG thematic funds in recent years such as AXIS AMC, ICICI Prudential & Quantum India AMC coming up with their ESG Funds. SBI Mutual Fund has also reclassified its equity fund as an ESG Fund.
Companies that follow good practices are believed to eventually generate higher profits through brand building and continued customer patronage. One of the examples of responsible companies in India is the Tata Group. Recently, it set an example through an initiative to provide accommodation at Taj Hotel to healthcare staff members and other frontline workers during the initial days of the Covid-19 pandemic. In the long run, such actions by companies can cause better profits and increased brand loyalty.
A company that follows ESG in the long term can emerge as a sustainable establishment. This is the major reason why ESG investing is also called sustainable investing.
List of ESG Funds in India
Here is a list of ESG funds available for investment in India:
- Aditya Birla Sun Life ESG Fund
- Axis ESG Fund
- ICICI Prudential ESG Fund
- Kotak ESG Opportunities Fund
- Mirae Asset ESG Sector Leaders ETF
- Quantum India ESG Equity Fund
- SBI Magnum Equity ESG Fund
Should you invest in ESG Funds?
Since ESG funds are still evolving in India, few investors are comfortable including these in their portfolios. Here are the investor types who can consider investing in ESG funds:
- Investors who are aware of the benefits and drawbacks of investing in ESG funds
- Investors who have a high-risk appetite
- Investors looking to invest for a long term
Why should you invest in ESG Funds?
Some of the prime reasons for investing in ESG funds are highlighted hereunder.
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Reduced risk
Companies with strong ESG practices may be better positioned to manage risks related to environmental and social issues. This could reduce their exposure to potential regulatory, legal, or reputational risks.
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Long-term returns potential
Some ESG funds have shown strong long-term performance which indicates that companies with strong ESG practices may be better positioned to weather risks and take advantage of opportunities.
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Increasing demand
The demand for ESG investments is growing across the globe and in India as well. This could drive up the value of these funds in the future as more investors seek to align their investments with their personal values.
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Alignment with personal values
Investing in ESG funds allows the investors to have an alignment of the investments with their personal values and beliefs enabling the to support companies with positive environmental and social impacts.
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Improved corporate behavior
By investing in ESG funds, corporates can sense the pulse of the investors that their environmental and social performance matters to investors, which could encourage better corporate behavior over time.
Who Should Invest in ESG Funds
Since ESG funds are still evolving in India, few investors are comfortable including these in their portfolios. Here are the investor types who can consider investing in ESG funds:
- Investors who are aware of the benefits and drawbacks of investing in ESG funds
- Investors who have a high-risk appetite
- Investors looking to invest for a long term
Challenges faced by ESG investments in India
There are many challenges that ESG investments currently face in India. Some of them are as listed below:
- Absence of quality data: Concrete data about a company’s social, environmental, or governance performance is often procured through an analyst or a fund manager. An organization’s sustainability report can also provide details on such information. Other documents where additional data on ESG can be found in annual reports, news articles, media releases, etc. For investors, finding concrete data on ESG of any company can be tedious and often inaccurate. Thus, the credibility of available information continues to be a hindrance in the growth of ESG investments in India.
- Absence of measurement standards: The Indian market currently lacks standardisation around ESG investing. Investors often use different names such as impact investing, sustainable investing, socially responsible investing, and also responsible investing. For further growth of this form of investing, there is a need for standardization in data collection, measurement standards, and methodology used while reporting.
- Traditional mindset: Many investors and fund managers find ESG to be an additional expense that is not essential. This aspect too curbs the growth of ESG investing in India.
- Limited track record of ESG funds: In India, ESG funds have started emerging in the past 2-3 years. Hence, there is also a lack of track record of ESG funds which may put off many investors from exploring this investing option.
- Lack of awareness: ESG investing is slowly gaining popularity among investors, but there’s not much awareness among many about this aspect. More and more investors need to be made aware of the benefits of ESG investing to broaden the market horizon of the same.
Conclusion
ESG in today’s world applies to all businesses and companies are increasingly realising its contribution. With more and more investors, shareholders, employees, clients, regulators clamoring for greater transparency in the system, ESG investing is becoming indispensable. Especially in the new normal, ESG investing will undoubtedly play a more significant role and change the way businesses are conducted in India and across the world. This would eventually help the business community and everyone else.
Frequently Asked Questions
What does ESG stand for in investing?
ESG is a short-form for Environmental, Social, and Governance. In new-age investing, investors have started emphasising on ESG factors since it is being observed that when these are integrated into investment and portfolio structuring, there could be higher long-term performance benefits.
Why should we invest in ESG?
ESG investment form is slowly gaining popularity in India since it provides valuable insights around factors that can have a substantial impact on various financial metrics of a company. This, in turn, allows investors to make informed investment decisions and aim for conscious investing.
Is a high ESG score good?
The more information a company discloses, the higher its ESG score. This is because transparency plays an important role in good governance, and corporate behavior becomes more measurable.
Are ESG funds worth investing in?
Sustainable funds are consistent in limiting the downside risk as compared to traditional funds. Although ESG funds are relatively new, worldwide they are known to show strong performance and resiliency despite market movements.
Is there a difference between CSR and ESG?
CSR or Corporate Social Responsibility focuses on the softer aspects of ethics followed by a company while conducting its operations. ESG or Environmental, social, and governance factors are quantifiable and help in measuring a company’s sustainability and focus on social impact.
