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How to make your money speak volumes about your values

For ‘woke’ investors who care about sustainability, social entrepreneurship and good corporate governance, here’s a primer on building a socially conscious investment portfolio.

With the growing awareness of climate change and social issues, ESG investing – which stands for Environmental, Social, and Governance investing – has been a trend in recent years.

Environmental concerns relate to natural resource scarcity, pollution and waste. Social issues cover labour practices, product liability and how a company interacts with the community. Lastly, governance refers to behaviours such as corporate reporting and decisions by the organisation’s board.

Certain demographic groups – particularly millennials and women – are also more interested in ESG investing, as a report by the Asian Venture Philanthropy Network, a funders' network based in Singapore, found.

It is crucial to note that, as the Financial Times Lexicon points out, ESG “are a subset of non-financial performance indicators which include sustainable, ethical and corporate governance issues such as managing a company’s carbon footprint and ensuring there are systems in place to ensure accountability.”

Because of their non-quantitative nature, different standards are applied when it comes to judging the level of ESG involvement across companies. This makes it difficult for an apple-to-apple comparison. Many times, one has to make an apple-to-orange comparison, and judge which company is ripe for your basket of investments (your portfolio, that is).

According to Marc Lansonneur, Head of Managed Solutions, Balance Sheet Products, and Investment Governance at DBS Wealth, ESG investing allows their clients to do well via better investment performance. “For clients who are business owners, they get to do good by aligning their key business values accordingly,” he added.

He has noticed more interest in ESG investing in Singapore. Local investors are encouraged by the growing evidence of the correlation between robust ESG practices and strong corporate financial performance. However, one challenge is the lack of historical ESG data or a recognised sustainability benchmark.

Another challenge that Lansonneur has seen is the lack of understanding among clients. In particular, the perception that ESG investing is a form of philanthropy.

Unlike philanthropy, ESG has the dual focuses of “doing good and delivering investment performance that is in line or above financial benchmarks”. He added that ESG investing enables better measurement and reporting of the impact made, apart from investment performance. These new measurement capabilities – enabled by third-party agencies, NGOs, auditors – can benefit philanthropy as well, whose impact can be difficult to assess and measure in the past.

Peter Monson, Portfolio Manager for Asian Equity, Nikko Asset Management, noticed the drivers for ESG investing in “concerns for the environment, social well-being and generational shifts”.

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(Photo: Freepik)

Monson pointed out that it is important to differentiate pure ESG investing based on ethical grounds, and ESG-integrated investing.

He explained that pure ESG investing looks at investments purely focused on ESG activities or the best-rated ESG companies. ESG-integrated investing, on the other hand, incorporates an ESG assessment with an analysis of individual stocks. Monson primarily engages in this as his firm believes that companies with a strong or improving ESG adherence will deliver better and more sustainable returns for investors over the long term.

DBS’s Lansonneur advises a two-step approach. The first is to know what you own. This means assessing the ESG status of your current investment portfolio. This assessment will help you decide on the next steps. “For example, whether to replace lower-rated holdings with higher rated ones, so as to improve overall ESG rating and potentially, future performance,” he said.

The second step: When assessing new investments, go beyond your usual selection criteria to consult your relationship manager about their ESG ratings before making your decision.

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In selecting which funds to pick, Monson counselled that ESG-focused funds are likely to provide the investor with exposure to specific sub-sectors of the broader universe, which can be desirable if one prefers a more concentrated approach.

He added that ESG-integrated funds will invest in a much broader universe, and in his experience, the funds generally look for the best quality companies at fair valuations which an investor can hold for the long term.

He pointed out that while there is a wealth of ESG rating providers, one should be cautious against taking these ratings at face value. His preference is to focus on funds that do their own proprietary analysis of ESG, which could also be supplemented by an external data provider’s insights.

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(Photo: Freepik)

Monson again pointed out the difference between ethical ESG investing from integrated ESG analysis. It is easier to implement exclusion screens on a number of less ethical sub-sectors. Common examples are companies who generate revenues from weapons manufacture, tobacco, gambling and alcohol. It is also possible to exclude companies based on past controversies.

For integrated ESG, companies can be screened from some common factors that are available in company disclosures, and this is something that third-party data providers are good at.

However, he stressed that “The best way for ESG integration is to combine some elements of data-driven screening with active company engagement, in order to make a complete assessment of a company’s ESG merits and credentials.”

A New York Times article published on February 14, 2020 pointed out that in the US, more investors are “demanding companies undergo careful screening”, instead of avoiding entire industries.

The rationale for this is to “retain the right to jawbone management and vote in favour of ESG-related shareholder resolutions”. Another way of looking at it is that, “it is better to be invested at a lower level but still be able to engage”.

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Ultimately the answer to this question calls for the same analysis as a typical investment decision. Does this stock add value to your portfolio? Is it a good fit for your personality and values? Are you in it for the long-haul or to make a quick buck? Do note that holding an investment for the short term may not be a bad decision to make all the time. Some situations – or opportunities – call for it.

ESG investing is here to stay. And if it dovetails with your investment values, why not give it a chance and let your money speak volumes about them?

Information in this article does not constitute investment advice. Readers should be aware that any investment comes with risk

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Source: CNA/ds