Before a company decides to invest in an asset, several factors must be considered. They don't do it overnight when they take on and assess investment opportunities. It involves weighing the pros and cons, the required expenses and fees, and the degree of risk associated with a specific asset.
Today, it is commonplace for investors to demand sustainability before investing in any particular asset. This is where ESG investment comes in. What is it, and what challenges and benefits can be derived from it? This blog aims to discuss ESG investing, its difference from impact investing, and the key ESG investment trends in 2024 and beyond.
What is ESG investing?
Beyond profitability, environmental, social, and governance performance (ESG) conveys a company's values and potential societal influence. It acknowledges that to maintain their long-term viability as businesses, companies need to find a balance between all of these forms of value.
Investors consider a company's social responsibility, environmental influence, and the efficiency of its governance structures by including ESG aspects in their investment decisions. With the help of this thorough assessment of businesses, investors may match their investments to their beliefs and cause positive shifts.
ESG Investing vs Impact Investing
Fostering social good is highly valued in impact investing, regardless of whether the investment generates a quantifiable profit. This is not the same as ESG investing, which looks for investments that will benefit society while still producing a profit.
To put it simply, impact investing focuses more on investments with a specific social or environmental outcome. Conversely, ESG investing assesses the ESG factors and financial metrics of a company before taking action.
Understanding ESG Investing
ESG investors follow various ethical investing trends, including environmentally conscious investments in green businesses, social justice advocates, and management practices. As the millennial generation becomes wealthier, they are increasingly interested in ESG causes and social concerns.
Understanding ESG investing can help these investors find companies that support their causes and ideas, such as limiting management compensation and offering work-life balance. By understanding these investors, companies can better cater to their needs and preferences.
Benefits of ESG Investing
Here are some of the boons of ESG investing:
Possibility of Greater Profits
Investing in ESG provides a way to benefit from long-term gains while promoting moral and ethical behavior. Businesses that integrate ESG factors into their fundamental beliefs are better positioned to manage risks and seize new possibilities.
This is particularly true in the current climate, as investors are paying more attention to the ethical and sustainable practices of their investments. ESG investing may be a compelling choice for investors hoping for longer-term gains. It offers possible financial gains in addition to assisting in making sure that investments are made in line with moral and environmentally friendly standards.
Favorable Result
Investing in this kind of strategy enables investors to fund businesses that share their values and benefit society and the environment. ESG investment considers a company's environmental, social, and governance performance in addition to its financial performance. Investors now use it as their go-to investment technique. This is significant because people now understand that they must back businesses that are improving worldwide.
Reduced Hazard
ESG investment promotes investing in businesses that are dedicated to sustainable practices. By doing this, they reduce the risk that comes with doing business with illicit or unsustainable organizations. Avoiding businesses that harm the environment or transgress human rights laws is part of this.
Additionally, as businesses that prioritize sustainable practices have a higher chance of long-term profitability, it can assist investors in capitalizing on long-term development potential.
Better Corporate Ethics
One excellent approach for investors to promote better corporate conduct is to invest in ESG-focused businesses. By investing in companies that prioritize ESG issues, the message becomes clear for corporate decision-makers regarding the value of ethical and sustainable business practices.
Moreover, ESG-focused investments can contribute to the creation of a long-lasting portfolio. This results from investing in businesses dedicated to positive practices and reaping the long-term rewards.
Challenges to ESG Investing
While there are considerable benefits to investing in ESG, there are also drawbacks that need to be considered, and here are some of them:
Restricted Possibilities for Investment
There's a probability that not every business will fit the requirements for investments with an emphasis on ESG. In certain situations, the investment opportunities available for ESG investing may be limited. To be deemed ESG-friendly, a company must meet specific environmental, social, and governance criteria. This implies that some industries, such as those that significantly rely on fossil fuels, would not be suitable for this type of investment.
Furthermore, smaller businesses might not have the resources to meet the requirements. This means that when it comes to ESG investing, investors may have fewer options.
Risk of Lower Profits
Ethical and sustainable investment plans may only sometimes yield higher profits, as businesses may have to invest in these practices, potentially impacting their bottom line. However, these expenditures may be necessary for long-term competitiveness. The return on investment depends on a company's ability to execute profitable projects, and the short-term impact of ethical and sustainable activities is typically minimal.
The Idea of Subjectivity
ESG investing is a subjective strategy that considers businesses' environmental, social, and governance activities. It's not a one-size-fits-all approach, as investors may view sustainable practices differently. For instance, businesses committed to reducing their carbon footprint might be preferred over those that support communities by creating jobs. Each investor's values and priorities should be considered when assessing their investments' sustainability.
The Absence of Standardization
ESG standards are not universally agreed upon, making it difficult for investors to assess a company's ESG performance. Without a uniform system of measures and reporting, investors cannot compare ESG performance across different industries and geographical areas.
Additionally, different investment products may have different ESG requirements, complicating the process of making informed decisions. Therefore, the industry needs to establish a common set of measures.
Key ESG Investment Trends in 2024
ESG is becoming crucial to solid business governance. With this comes a lot of new developments as well. These ESG investment trends include the following.
1. Climate Change
Over 90% of climate scientists believe humans are responsible for climate change. Despite logistical and political obstacles, progress is being made, offering ESG investors a chance to support a cause. US cap and trade legislation may impact nonrenewable energy sectors.
2. Reasonable Compensation
The International Labour Organization's (ILO) global wage study revealed that women earned only 80% of men's wages in 2018–19. A 2022–2023 study found the gender pay gap hasn't significantly changed. ESG-conscious investors may find companies promoting gender equality more appealing, as there are growing opportunities for them to support businesses that prioritize gender equality.
3. Sustainable Goods Will Be the Standard
Fast fashion is becoming uncool due to young people's sustainable purchasing habits. Millennials and Gen-Z are more aware of climate change and biodiversity depletion. To attract this generation, companies must meet sustainability and environmental criteria, as they will have more purchasing power when they join the workforce.
4. The Growth of the Carbon Offset Market
Carbon offsetting is the process of compensating for greenhouse gas emissions, funded by businesses and organizations. It aims to reduce emissions or prevent harmful gases from being released into the atmosphere. As net-zero emissions gain popularity, attitudes towards offsets may shift, allowing high-quality programs to thrive.
5. Promoting Work-From-Home
Remote work has shown significant positive effects on human health and the environment, as it reduces emissions and fossil fuel consumption. As fewer cars are on the road and energy is used in office buildings, it is the quickest and cheapest way for individuals and companies to reduce their carbon footprint.
6. Alignment of Standards and Governance
The convergence of ESG terminology, standards, and initiatives, initiated in 2020, is expected to continue in the future. The Task Force on Climate-Related Financial Disclosures (TCFD) introduced a standard reporting procedure for climate change, while the European Union’s consultation on sustainable corporate governance affects other economies. The International Financial Reporting Standards Foundation is developing global ESG standards.
Consider ESG Investing Today
ESG investing can be beneficial for aligning assets with principles, potentially increasing returns, and reducing risk. However, investors should carefully consider possible downsides and ensure they align with their objectives and risk tolerance. Both private and public companies must stay updated on emerging investment trends and disclosure requirements.
If you want to stay on the cutting edge of new advancements in ESG investing, start achieving your ESG investment goals with CREIT, the first renewable energy REIT in the Philippines. To find out how we can help you stay ahead of the competition and informed about new trends in the industry, partner with us today.
