Alexander Grace Chartered Financial Planner

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ESG – Socially Responsible Investing in an Ever-Changing Environment

How we go about our everyday lives is changing at a rapid pace. The popularity and affordability of smartphones has made information instantly accessible for many, and with that comes greater awareness of the issues around us. The progress in technology has seen a staggering increase in electric vehicles, with manufacturers all putting their efforts into projects that are greater for the environment. From an energy point of view, we are seeing more solar panels on houses than ever before.

There are many other examples that shows how our everyday habits have changed, such as recycling bins being an expectation in most public places; paper straws have become commonplace in majority of food outlets; charging for carrier bags to encourage people to re-use old bags. This has all become second nature to us, but also evidences that being socially responsible is not simply a “trend”, but likely to become the norm and financial services are following suit.

ESG has become a very popular acronym in recent years in Financial Services and we are seeing many companies in the industry striving to meet ESG criteria with their investment funds – but what does this mean to the investor? Let’s find out.

What does ESG mean?

  • Environmental: Factors that directly impact the physical environment around us. This includes climate change, deforestation, carbon emissions and use of natural resources.
  • Social: Considering the impact on society where issues such as health and safety, human rights and working conditions are factored in amongst other things.
  • Governance: Concentrates on how companies are governed, including ethics, board members, transparency, and diversity.


How is ESG determined?

Investors can compare company ESG performance through a scoring system, assessing how much of a risk a company is. There are various scoring systems out there, but usually the scores follow similar labelling in terms of how they are categorised, so it should be easy to find consistency.

The foundations of ESG risk ratings are Corporate Governance, Material Issues, and Idiosyncratic / firm-specific risk. Each company is assessed on exposure to the risk within these factors as well as the management structure in place to control the ESG risks.

What is the difference between ESG and Ethical?

ESG and Ethical funds are commonly mistaken, and it is important to know the differences. ESG funds take a forward-facing approach, whereby we look to see if companies are performing their whilst positively contributing to society, helping the environment and being well governed, rather than focussing on events of the past.

Ethical funds on the other hand are down to the beliefs of the investor, where investment performance is secondary to the moral and ethical judgements of a company. Ethical funds tend have a “negative screening” approach, where certain industries are not considered for investment, despite ESG factors and scoring.

Historically, ethical funds were seen as high risk due to the limited investment opportunity because of negative screening. Looking to the future, more companies are fitting the criteria of “ethical”, and many more companies meet ESG criteria, making responsible investing much broader in terms of the risk spectrum.

ESG Performance vs Non ESG Performance

The gap on performance between ESG and Non-ESG funds has closed in recent years, but it would be reckless to predict the trend moving forward as past performance is by no means an indication of future performance. A likely contributing factor would be that more companies are meeting ESG criteria, and it wouldn’t be unusual to see the same companies in ESG and Non-ESG portfolios. This is very important as it is showing the landscape of ESG is broadening, as a recent article by Bloomberg has evidenced, with 54% of FTSE 100 companies having ESG committees.

ESG at Alexander Grace

  • At Alexander Grace, we take a holistic approach to managing ESG and sustainability factors within our dedicated ESG portfolios. With almost all fund managers taking a slightly different approach to ESG management, we aim to objectively weigh the merits and drawbacks of each approach and are mindful that there is no one correct way to implement ESG within a portfolio. We typically invest across the spectrum of ESG approaches, ranging from a traditional ethical based screening approach, to ESG risk integration, and more thematic and positive change based funds.
  • We undertake a qualitative due diligence process which aims to understand the fund manager’s expertise, experience, and commitment to ESG investing, and to review how ESG integration underpins the overall investment processes and philosophy of the fund. As the approaches taken across the industry vary so widely, taking the time to truly understand what each fund aims to achieve, and crucially how it will achieve these objectives, is of utmost importance.
  • We also use quantitative data from one of the market leaders in ESG and sustainability data, Sustainalytics, which we use to objectively assess each fund’s overall exposures to controversial sectors and industries, the ESG strength of its individual underlying stocks, and its carbon data and fossil fuel involvement. We use this data to help identify funds which perform well on ESG measurements, and to confirm whether the underlying data corresponds favourably- or not – to the funds stated ESG objectives.

Why might ESG benefit investors?

Global investors are becoming more attuned to business impact on the environment and society, and how businesses are managed at senior level. The dissemination of information through the internet and social media in particular means businesses need be more conscious than ever. More and more individual investors want to invest responsibly which has seen an increase in the number and size of ESG and sustainable funds across the UK, Europe and elsewhere. This is putting greater pressure on companies to act responsibly in line with the greater portion of dedicated ESG investors within their shareholder base.

In essence, ESG risks are detrimental to businesses in the long term, whether that’s due to the likelihood of increased regulation, potential for legal costs, stranded-asset risk an inefficient use of resources, or just the potential loss of more responsible minded consumers. A company which looks to minimise potential long costs and business risks now, rather than later, could stand to benefit in the long term, and is potentially a sign of a management team which is forward thinking and more holistically aware of its own operations which is a good sign for long term investors.

The information available through Alexander Grace is for your general information. In particular, the information does not constitute any form of advice or recommendation and is not intended to be relied upon by users in making (or refraining from making) any investment decisions. Appropriate independent advice should be taken before making any such decision. Past performance is not necessarily a guide to future performance. The value of investments may go down as well as up and you may not get back the money you originally invested.

Although endeavours have been made to provide accurate and timely information, we cannot guarantee that such information is accurate at the date it is received or that it will continue to be accurate in the future. No individual or company should act upon such information without receiving appropriate professional advice after a thorough review of their situation. We cannot accept responsibility for any loss as a result of acts or omissions.

Alexander Grace, a trading name of IWP Financial Planning Limited, is authorised and regulated by the Financial Conduct Authority. Financial Services Register No 441359. IWP Financial Planning Limited registered in England and Wales company registration number: 4138186.

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