Investing for Impact: Understanding the ABCs of ESG

Whether it is termed ESG (environmental, social and governance) or SRI (socially-responsible investing), this concept is now front and center for many investors and businesses. A quick scan of news headlines related to ESG will reinforce just how widespread this topic has become.

In our prior blog post on the evolution of ESG in the investment space, we shared useful background on how the term is defined, its evolution over recent decades, and why it matters for investors and their advisors. This post is intended to provide more insights on how to think about this area relative to your personal investment approach and goals.

ESG criteria helps to establish standards for a company’s operations while also serving as the basis for reporting to key stakeholders and the financial markets at large. For investment advisory firms like Two Point Capital Management and individual investors alike, one of the most notable aspects of this trend is the wealth of new data points and insights to explore for a given corporation. More data on diverse aspects of operations, strategy and execution means greater overall transparency, leading to a more holistic consideration set when making investment decisions.

Leveraging a Deeper Level of Transparency

For those interested in ESG – or, at a more foundational level, interested in making a positive impact on the world through their investments – where do you start? How can individuals make best use of the insights offered by this growing area of corporate reporting?

First and foremost, it is helpful to work with a trusted professional who understands your long-term financial goals, priorities and tolerance for risk. From this foundation you can begin to explore how ESG factors relate to other “corporate fundamentals” that inform judgements about a company’s strengths and risk factors. Corporate fundamentals are wide-ranging – from the state of a corporation’s cash flow, to the level and use of debt, to the strength and resiliency of a critical supply chain. With the addition of ESG factors, corporate fundamentals can also include the measures put in place to monitor how that same supply chain impacts the environment, as well as how a changing environment might impact the supply chain in the future.

This leads to the second recommendation for starting to engage with ESG – taking time to learn about key elements that make up each area. Understanding more about the different factors being evaluated in the realms of environmental, social and governance can help individuals make more informed decisions about the potential impact these factors might have on a company’s long-term investment prospects and its impact on the world we live in.

The data points that contribute to ESG processes and reporting are diverse. Many are interrelated and there is no single list of criteria. Yet there are commonly accepted themes that help define the “E”, “S” and “G” along with many recognized elements. Here are just a few as defined by the CFA Institute:

Each individual must decide which aspects of ESG are most notable or meaningful to them based on their personal values and interests. For some, environmental factors will be the most important. Others may want to focus on how a given company relates to its employees or supports the communities in which it operates. Still others may be focused on factors related to strong, consistent governance at the Board level – including work to increase transparency of processes and controls.

This is where open explorations with your investment advisor will be key. These discussions can help you assess how best to tap into those unique dimensions of ESG that can be so critical to sustainable, long-term success for companies – as well as long term benefits for society and our planet as a whole.

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