COVID-19 pandemic has exposed the risks and the dangers in our global financial systems and market supply gains. It has also highlighted the importance of having a coordinated, collective action that is supported by science. Like the pandemic, climate change also poses a long-term threat to financial markets. Globally coordinated efforts are needed to prevent the devastating environmental impacts and catastrophic consequences of climate change.
What is ESG Investing?
ESG is an acronym where E stands for environmental, S is for social, and G is for governance. This is an investment philosophy that focuses on environmental, social, and governance responsible investing. ESG investing does not appear to be a passing fad as nearly one in five investors surveyed today are willing to allocate between 21% and 50% of their portfolios toward ESG funds.
ESG investing has gained considerable traction growing to over $30 trillion in assets today. It is expected to reach $50 trillion in the next two decades. With an ever-growing interest in sustainable investing the number of ESG ETFs has more than doubled from around 25 several years ago to more than 70 today.
Why is ESG investing growing so fast?
Many investors believe that by investing in environmentally friendly and socially responsible companies they are playing an influential role in keeping the environment safe and sustainable. There is also supporting evidence to suggest stocks of companies that meet the high requirements for environmental, social, and governance factors can outperform the market while lowering downside risk over time. So, ESG investors can do well for themselves by backing companies that can also do good for the global environment.
As investors become more socially and environmentally conscious and ESG investing rises in popularity, ESG is likely to become the next growth frontier for institutional and retail investors. As more and more money flows into ESG, it will in turn flow to companies and sectors that are more ESG sustainable, pushing the valuations and interests of those companies thereby creating a long-term positive feedback loop.
Maybe environmental, social, and governance, or ESG, investing is indeed a sustainable long-term investment strategy, after all. However, ESG growth still faces two major hurdles. The first is the lack of standardization around terminology and practices. The differences in definitions of ESG can lead to a fragmented ESG product market. The second bottleneck to ESG growth is the perceived perception by some investors that investing in ESG stocks will limit you to a select group of stocks and hence this may become a hurdle to higher returns.
A brief review of the top 10 positions in many of the ESG ETFs suggests that they are comprised of the largest market-cap-weighted Technology stocks in the world. This may be the reason for their outperformance in recent years. Nonetheless, enclosed below are the most widely followed ESG ETFs currently available for investors:
iShares MSCI KLD 400 Social ETF (DSI) – This ESG ETF is one of the largest and oldest ESG ETFs. It seeks to track the investment results of an index composed of U.S. companies that have positive environmental, social, and governance characteristics as identified by the index provider. Top holdings: MSFT, FB, GOOG, GOOGL, V, PG, HD, MA, INTC, and NVDA.
Vanguard ESG U.S. Stock ETF (ESGV) – Seeks to track the performance of the FTSE US All Cap Choice Index consisting of large-, mid-, and small-cap stocks screened for certain environmental, social, and corporate governance criteria. Top holdings: MSFT, AAPL, AMZN, FB, GOOG, GOOGL, V, JPM, UNH, and PG.
iShares ESG MSCI EAFE ETF (ESGD) – Seeks to track the large-and mid-cap developed market equities, excluding the U.S. and Canada that have positive environmental, social, and governance characteristics as identified by the index provider. Top holdings: NESN, ROG, ASML, SAP.DE, AZN.L, NOVO.B, BP. L, 7203, SAN.PA, and SIE.DE
SPDR SSGA Gender Diversity Index ETF (SHE) – Seeks to track the performance of the SSGA Gender Diversity Index that provides exposure to US Companies that demonstrate greater gender diversity within senior leadership than other firms in their sector. Top holdings: BAC, GS, UBS, BNP, CS, C, and SCGLY.
Invesco Solar ETF (TAN) – Seeks to track the MAC Global Solar Energy Index. The index is comprised of companies in the solar energy industry. Top holdings: SEDG, 00968, ENPH, FSLR, RUN, CAP.DE, SSO, SLR.BC, DQ, and CCSIQ.TO.
SPDR S&P 500 Fossil Fuel Reserves Free ETF (SPYX) – Seeks to track the performance of companies in the S&P 500 Index that are fossil fuel free. Top holdings: MSFT, AAPL, AMZN, GOOGL, GOOG, JNJ, BRK.B, V, and PG.
iShares MSCI USA ESG Select ETF (SUSA) – Seeks to track the investment results of an index composed of U.S. companies that have positive environmental, social, and governance characteristics as identified by the index provider. Top holdings: MSFT, AAPL, ACN, GOOGL, CRM, MMM, HD, BLK, CMI, EXPD.