Originally published in the April issue of 50+ Living of Western NC
A monumental change is happening in the world of investing: the rise of Sustainable Investing. As of 2018, one in four dollars invested by individuals and institutions in the U.S. are now in sustainable and responsible investment vehicles. That equates to $12 trillion, an increase of 38% just since 2016 according to the US SIF Foundation’s 2018 Report on US Sustainable, Responsible and Impact Investing Trends.(1) That shift seems very likely to continue in the coming years. However, the investing public and even some financial advisors, continue to have significant misperceptions about sustainable investing.
The misunderstandings are rooted in the origins of this type of investing. Socially Responsible Investing was birthed way back in the 1700s from the demand from some religious institutions (Quakers first, then Methodists) for their congregations to avoid investing in sinful things – slavery, weapons, liquor and tobacco. By the 1980s, this practice of avoiding certain types of investments had expanded to include environmental issues and avoidance of companies doing business in South Africa due to apartheid. The notion of socially responsible investing was laden with value statements about certain industries, companies or practices that were deemed harmful to society.
This avoidance approach had its limitations. Investing this way was complicated and very new. How could you know how much pollution was emitted by a certain company? Disclosure from companies was limited. Also, avoiding oil stocks during the boom times of oil had a dampening impact on investment returns. A common perception emerged that you had to give up some investment performance to invest according to your values. Not many wanted to make that trade off. Skepticism was common.
In more recent years, professional investment managers have developed an inclusion approach. They seek to find and invest in companies that are standouts in environmental, social and corporate governance “ESG” measures. This more comprehensive approach, now termed Sustainable Investing, has changed things dramatically. Integrating ESG performance into financial analysis of companies provides greater insight into risks and opportunities for investors.
At the same time, two other factors have contributed to the rise of Sustainable Investing. First, fossil fuel corporations’ market dominance declined. They now make up a smaller portion of the earnings and growth of the largest U.S. companies. The FAANG stocks (Facebook, Apple, Amazon, Netflix and Google) plus other tech giants like Microsoft, now far surpass oil companies in terms of market capitalization. Not having oil companies in an investment portfolio now has a more limited impact.
Second, disclosure of sustainable practices by the largest U.S. public companies has increased substantially. According to the Governance & Accountability Institute, 86% of the companies in the S&P 500 Index® published sustainability reports in 2018, compared to just 20% in 2011.(2) Sustainable investors want to account for a company’s performance risk attributed to corporate governance, environmental compliance, or workplace safety. With increased disclosure, it is easier to discern differences and avoid investment risks in these areas. Now, before corporate failings such as Equifax’s data breach and Volkswagen’s emissions scandal severely impact stock prices, investors have more tools to examine potential risks and invest their funds elsewhere.
Sustainable Investing will continue to grow in the coming years and become even more mainstream for two primary reasons. Demand from individual investors, especially millennials, is high. According to the Morgan Stanley Institute for Sustainable Investing, more than eight of ten U.S. individual investors (and nine of ten Millennial investors) now express interest in sustainable investing.(3)
However, the biggest jump may come from professional investment managers embracing of this way of investing. In January 2020, Larry Fink, the Chief Executive Officer (CEO) of BlackRock, the world’s largest asset manager, titled his annual letter to the CEOs of the world’s largest companies, “A Fundamental Reshaping of Finance.”(4) In that letter, he stated that “climate change has become a defining factor in companies’ long-term prospects.” Furthermore, he proclaimed that BlackRock “believe[s] that sustainable investing is the strongest foundation for client portfolios going forward.” Those are incredibly significant statements coming from the CEO of a company that manages more than $7 trillion dollars for institutions and individuals.
Fink’s letter was directed toward CEOs of companies in which his clients are invested. The intent appeared to be a warning to those CEOs that, if they do not account for sustainability-related risks to their businesses and have clear plans to address those risks, his company would move clients’ investments elsewhere.
In addition to the Sustainable Investing trend, the practice of investing to bring about change is evolving. You can still invest in a way that avoids things that don’t fit your values. But you can also intentionally invest in a way that aligns with the things you do value. For example, if you believe companies should have gender equality in their boards of directors and executive management, you can invest specifically in companies showing leadership in that area. If you want to target some of your investing to companies that are providing market solutions for renewable energy, you can do that as well. You, joining force with other like-minded investors, can have a significant impact. Additionally, you can use investment companies that use their status as large shareowners to successfully engage with corporations to improve their ESG practices and encourage long-term growth of shareholder value.
Sustainable Investing no longer means simply avoiding sin stocks and giving up some investment growth to feel better about your money. It is a rapidly evolving and growing practice that seeks to understand and mitigate company ESG risks and maximize long-term value for investors.
If you’d like to know more about this exciting trend in investing please contact us for a free consultation.
-Dave Werle, CFP®, CSRIC™
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