Investing in the planet

Global companies and their investors have a key role to play in the battle against climate change and the evolution of a more sustainable way of living. But how can you invest for the health of the planet to help tackle pressing environmental issues while generating respectable returns?

In our view, the need to create a more sustainable economy poses both opportunities and risks for investors, and the drive towards cleaner energy is perhaps the biggest example.

Winners are unclear

The rapid growth of renewables and alternative sources of energy continues to require huge sums to be invested across the energy production and distribution chain. This continues to create significant opportunities for businesses delivering products or services that are part of the solution.

The decarbonisation of power generation offers opportunity to utilities companies who specialise in renewables, electrical equipment companies, and energy storage companies who can help equalise peaks and toughs of supply and demand. There is widespread acceptance for continued growth in renewable energy generation, but energy consumption is also expected to increase substantially, so most countries will require significant upgrades to their electricity grid and infrastructure. In addition, greater efficiency is necessary to offset the growth in overall power consumption, which presents opportunities for businesses with intelligent or energy saving technology.

Yet it can be difficult to pick the ultimate winners able to produce mass-market products that capture the financial rewards of the green revolution. Renewable energy and related innovative industries such as electric vehicles are rapidly evolving, and it is unclear, for instance, which company will produce a ‘people’s car’, the Beetle or the Mini, of the electric car industry.

There are also risks involved in backing the wrong technologies and avoiding obsolescence in areas where new ideas are constantly emerging. Where technologies are in their infancy there is always a chance, possibly a high one, that a specialist business doesn’t achieve commercial viability.

Additionally, there may be significant regulatory and policy risks, which can impact profitability. Although timescales vary on Net-Zero commitments, all major world powers wish to decarbonise. As such they need to intervene to retire fossil fuels earlier than market forces alone would deliver, and to get greener products and services adopted more quickly. It means investors need to be conscious that companies and sub-sectors will be affected by which nations offer the greatest incentives, which areas could experience overcapacity and which companies can genuinely take advantage.

Taking a view on the future

It is therefore important to carefully evaluate each investment opportunity to understand the technology, business model, potential benefits and the risks involved. To best identify the potential winners, investors should focus on companies that have a strong track record of commercialising innovation and are therefore well-positioned to take advantage of emerging trends and the prevailing industrial and political landscape. Diversified businesses may also be more attractive, as they are less reliant on the success of a single product.

While the energy transition has obvious attractions, some of the alternative beneficiaries from a greener future world include sustainable agriculture, building materials, alternative diets and circular economy enablers - green packaging and waste management. When prioritising these it is necessary to consider a range of factors, including market size, growth potential, regulatory and policy risks, and competition.

Investors should also reflect on whether their personal values and investment goals align to that of a company or investment fund. It is important there is a ‘just’ transition that not only seeks better environmental outcomes but promotes social inclusion too. Unless the shift to a low-carbon economy is equitable, and avoids a deterioration in the welfare and prosperity of the parts of society most impacted, it could falter due to a lack of social and political support.

What is responsible investing?

Responsible Investing considers social and environmental good as well as a financial return. It is often used as an umbrella term that encompasses various approaches, most of which involve incorporating Environmental, Social and Governance (ESG) factors in an investment process.

Although it doesn’t exclusively deal with sustainability, responsible investing encourages corporate behaviour that promotes environmental stewardship, consumer protection and human rights, and typically means taking a view (and possibly engaging with companies) on key issues such as climate change, labour management, corporate governance, gender diversity and data security, among others.

It can also include avoiding businesses involved in areas deemed harmful or unethical such as alcohol, tobacco, gambling, weapons or animal testing. Meanwhile, issues such as energy efficiency, water scarcity, safety, and diversity are in some instances specifically targeted as investment themes.

Five myths of responsible investing

Raising the standard

Businesses are increasingly aware of the rise of responsible investing and its increasing emphasis on transparency and improving standards, resulting in a long-term evolution away from a strictly shareholder and profit focus towards a more stakeholder-friendly model. As well as aiming to do the right thing by their own values, there are governance principles and tightening regulations that compel businesses to consider environmental and social issues. Ultimately, if these are important to investors, and affect the extent to which companies can attract capital and the rates at which they can borrow, corporates have a vested interest in raising their standards.

Other real world effects can be achieved through existing shareholders requesting progress or change on particular issues. These can be environmentally focused such as carbon emission reduction targets or even just improved data transparency. They can also be social factors such as the fair treatment of workers or improved diversity and inclusion reporting. Whatever the means, the more people that invest responsibly the greater pressure there is on companies to improve, helping drive the pace of change. We expect this form of investing to have a considerable influence on companies’ actions and on financial returns going forward.

How to start investing responsibly

1. Think about why and how you want to invest. Is it for you or a child, and for what purpose is it – retirement or nearer term? This will dictate the type of investment product you use, such as an ISA, Junior ISA or Pension.
2. Consider how much you are going to contribute and how often. Like any other form of investing, you’ll need to think about whether you can invest as a lump sum, or will you invest in a series of lump sums or monthly contributions.
3. How much risk do you want to take? This is usually connected to how long you want to invest for and how much you can afford to contribute. Maximising higher risk assets such as shares should be carried out over longer investing periods, while for shorter time periods (e.g. 5-10 years) you should generally use some lower-risk areas, such as bonds.
4. Find out your options available. A platform like our own Charles Stanley Direct offers plenty of responsible fund options from different providers. If you are investing via, for instance, a workplace pension then there may be a more limited number available.
5. Weigh up individual investment and fund selections. Selecting individual shares is an option, though this does take more commitment in terms of research and means it’s harder to get diversification, especially when investing small amounts. For most people, getting instant diversification, as well as the expertise of a specialist fund manager is going to be beneficial. However, it’s important to assess whether the values of that manager match your own. There are a selection of fund options in the dedicated section of our Preferred List that we consider good quality.

Start investing in your future

Building wealth for the future is important, but increasingly people want their finances to do more than make money. Find out more about how you can become a responsible investor.

Please note: This article was released prior to SDR and thus the information may not be in line with the Anti-Greenwashing rule but contextually is appropriate for the time it was written.