What is ESG Investing: Here’s All You Want to Know

Putting money in companies that score high on environment and social issues or rate higher on governance is a transformative approach to investment that goes beyond the traditional forms of financial returns. Environmental, Social, and Governance, or ESG, investment includes parameters such as how a company navigates environmental challenges, how transparent it is in disclosures and how are its relationships with employees and communities.

The idea of ESG investment has emerged out of two perspectives: One, sustainable business practices were found to be crucial for long-term profitability and risk mitigation and second the need to focus on companies that not only promise financial returns but also contribute positively to societal and environmental goals.

What is ESG Investing?

How Can You Find ESG Investments?

There are many ways to find ESG investments, which basically leads to you to corporates that prioritize climate change, environment and community protection and are also transparent on governance. Here are some of them:

Research: You can go through the research of many investment advisers and their ranking of companies that focus on ESG criteria. Based on this research, you can allocate funds among high ranking ESG companies.

Mutual funds: Some MFs, too, have have launched schemes that invest only in that rank high on ESG criteria.

ESG Rating Agencies: Many organizations, including MSCI, Sustainalytics, and Morningstar have ESG ratings for companies and funds.

Company Reports: The ESG report now has been mandated for annual report of many companies. You can scan these reports carefully and set your own ESG parameters.

Impact Investment Opportunities: Nowadays many investment opportunities such as green bonds, and social enterprise lending have come up as an alternative to pure financial investment.

Breaking Down ESG 

ESG investing is related to the environmental, social, and governance factors in investment decision-making process.

E for Environmental: This refers to the environment impact the company and products have on. It includes issues such as:

Climate Change and Carbon Emissions: This can be about how much the carbon emission the company’s products or the product-making process leads to. However, if a company’s products offsets any of these that too can be included as a plus point.

Resource Depletion: This includes the sustainable use and management of natural resources like water, land, and energy.

Pollution and Deforestation: How much pollution products or raw material creates? Also, whether it necessitates cutting down of trees?

S for Social: This is a complex dimension of the ESG and includes a company’s relationships with employees, suppliers, customers, and communities where it operates.

Employee Relations: How a company is deals with its employees on empathy factors etc.

Diversity: Whether the policies of a company is fair in hiring, retention and promotion on basis of race, gender etc.

Human Rights: The company's adherence to basic human rights standards across its operations and supply chain.

Community: Whether the company is emphatic to the people or community around which it operates and if it helps support local economies.

Customer: What are the company's record on product safety, quality, and nowadays data protection.

G for Governance: To check if the practices and policies of a company is geared towards effective decisions, law compliance and transparency

Board Composition and Structure: If there are enough and competent independent directors on the board.

Audit: If the audit if being carried out by an independent and competent agency and how is the company addressing risks and other issues raised by it.

Importance of ESG Investing

ESG investment has gained significant traction in recent years due to several reasons, including:

Long-term return: Companies that adhere to ESG norms have been found outperform peers in the long term, even if short-term returns may fall short.

Risk Management: ESG factors often highlight risks that might not be evident through traditional financial analysis. For example, environmental risks can affect a company's operations and long-term viability, while poor governance practices can lead to legal issues and reputational damage. By considering ESG criteria, investors can identify and mitigate these risks.

Government Incentives: many governments across the world are coming up with laws to give sops for sustainable business practices.

Consciousness: Many investors want to bring change in the society and the environment by making the right investment decision.

ESG and the Indian Market

The Securities and Exchange Board of India mandated ESG reporting in 2012 for top 100 listed companies by market capitalisation through a Business Responsibility Report. SEBI went onto to expand the requirement to top 500 listed companies by market capitalisation in 2015 and in 2021, the regulator launched fresh ESG reporting structure named Business Responsibility and Sustainability Report.

Many rating agencies in India now rate companies on their ESG core and some mutual funds, too, have launched schemes that invest in shares that rank high on ESG score.

In fact, many companies that may not be mandated by law to declare ESG report have resorted to do so in an effort to be both transparent on the issue as well as to attract investment from funds or individuals that are ESG conscious. 

Avendus Capital expects 34% of India’s total asset under management to be ESG compliant by 2051.

Conclusion

ESG investment make a formidable case for long-term investment. In the short-term, return from ESG investment may lag of those that from companies non-compliant with such parameter, but as the world recognises the issues relating to ESG and its impact on our future generations returns from firms ranking on ESG parameters is set to rise.