Investing in the ‘E’ in ESG

An important part of socially responsible investing is assessing environmental impact.

| 6 min read

The world is facing huge challenges – climate change, water scarcity and ecological degradation. Lots of us want to do our bit for the environment, whether it is recycling, avoiding single-use plastic or reducing our carbon footprint.

It’s also possible to invest in a more environmentally friendly manner. That’s the ‘E’ in ESG – the widely-used acronym for Environmental, Social and Governance investment themes. It’s another way we can all, individually and as a society, have a meaningful impact on issues we care about. But what does it mean in practice? Watch our ESG diaries video from Hayley Warner: Discussing the environment.

Investment funds embracing ESG principles should factor into their investment decisions the risks that poor corporate behaviour can pose to a company’s share price. Going further, they may also choose to target companies providing solutions to sustainability challenges, notably opportunities created by the transition to a low carbon and sustainable global economy.

Carbon emissions

For many years scientists have been warning that the world is fast approaching a tipping point that means our climate goes past the point of no return in terms of rising temperatures. The human and environmental consequences would be catastrophic. With change falling well short of what is required to keep climate change in check, urgent action is now required. Companies operating renewable energy infrastructure that helps reduce carbon emissions and combat climate change are in the vanguard.

For instance, one company held by Baillie Gifford Positive Change Fund is Ørsted, which in 2018 set new targets to complete its strategic shift into green energy and away from fossil fuels. By 2025 the company will be 99% based on green energy with between 75% and 85% of all new investment in offshore wind.

Reductions in emissions can also be achieved through greater efficiency and the commercialisation of alternatives to fossil-fuel intensive products and industries. There are many companies that can help, for instance through improving insulation in buildings or provide energy-efficient lighting in order to reduce energy consumption. Other solutions range from electric cars and smart technology through to green buildings and infrastructure.

Environmental stewardship

Investors using ESG criteria also seek to avoid companies that harm the environment and negatively impact natural habitats and biodiversity. Energy, mining and industrial companies are often under particular scrutiny in this regard, but assessing impact extends to all companies, especially those that source raw materials from others. For instance, deforestation in the Brazilian rainforest has drawn attention to the supply chains of various areas including leather and agricultural feeds.

Water management is also an area increasingly in focus. Having access to clean water is something most of us take for granted, but more than 40% of the world’s population is affected by water scarcity and problems could become more widespread as droughts increase as a result of climate change. Access to clean water and basic sanitation can save lives, so companies helping to improve water quality or efficiently managing this most vital of resources tend to be a key theme for socially responsible investors.

Waste and recycling

David Attenborough’s television series Blue Planet II has been credited with spreading widespread awareness of the man-made damage to marine life from plastic pollution. A major challenge is that currently recyclable PET plastic only represents 11%, with other types currently not as easy to recycle or reuse. Substituting materials and improvements in recycling will require huge changes from the point of design and manufacture through to improving and expanding recycling facilities.

Many asset managers have started to challenge packaging, consumer and chemical companies on the production and use of plastic as well as their support for recycling. Disclosure and data collection are still being developed, but it has rapidly become a risk companies know they have to address. Business models that eliminate waste or maintain, re-use or recycle materials with as little waste as possible are more sustainable and could capitalise on this societal change as well as help the environment.

Electronic waste too is becoming an increasing problem. The technology may be indispensable to us phones and other devices are frequently thrown away in favour of newer models, and this smartphone turnover is contributing to the expected generate over 50 million tons of e-waste a year by 2021, which damages human health and the environment. There are opportunities for companies to salvage parts from discarded technology, but less than half of the 25 major technology companies assessed by MSCI had a quantitative recycling target.

Investors play a vital role

‘E’ isn’t the only part of the ESG jigsaw. Social and Governance factors also play a role in the assessment of companies in the portfolios of socially responsible investors. However, ‘E’ is a major component and represents a way the financial sector – and end investors – can play a vital role in influencing global companies’ adoption of climate-friendly policies.

Investors’ allocation of capital impacts companies’ actions. Backing companies that set ambitious targets on climate change and other issues can increase the competitiveness of environmental solutions and products, as well as encourage innovation and change.

For instance, it is estimated that $2.9trn of investment in sustainable energy infrastructure is needed to meet UN Sustainable Development Goals by the target date of 2030. This cannot come from governments alone and businesses throughout the world will be required to change or be compelled to do so. Investors have the power to make an impact by choosing where to put their money.

Investor action can also help put pressure on poor practices. Environmentalists blame big corporations – mainly in the food and agricultural sectors – for creating the demand that finances the fires and deforestation, but the supply chains of businesses involved in paper, timber, rubber, palm oil, and clothing can also be connected. For instance, H&M, the world’s second-biggest fashion retailer, announced it would stop purchasing leather products produced in Brazil following the rainforest fires earlier this year, and greater investor scrutiny of all supply chains can help promote environmentally-friendly practices and avoid destructive ones.

Nothing on this website should be construed as personal advice based on your circumstances. No news or research item is a personal recommendation to deal.

Investing in the ‘E’ in ESG

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