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By Ajoy Gonsalves
ESG funds are investment funds that incorporate environmental, social, and governance criteria into their investment strategy and portfolio selection. According to a report by PwC, ESG-focused assets are projected to grow at a compound annual growth rate of nearly 13% through 2026, reaching over $33 trillion and constituting 21.5% of total global assets under management. [1] The rising popularity of ESG funds reflects a broader shift among investors who increasingly want their investments to align with their values and have a positive impact on society and the environment.
ESG criteria refers to the environmental, social, and governance factors that investors consider when evaluating potential investments. Here is an overview of what each category entails:
Environmental criteria look at how a company performs as a steward of the natural environment. This includes factors like:
Companies with strong environmental practices will score well on these metrics. Poor environmental performers raise risks like regulatory action, lawsuits, and reputational damage (Investopedia, 2024).
Social criteria examine how a company manages relationships with its workforce, suppliers, customers, and the communities where it operates. It includes factors such as:
Companies with positive social practices tend to have better talent recruitment and retention, strong consumer appeal, and avoid controversies over unfair or unsafe practices (Greenly, 2023).
Governance deals with the leadership and accountability of a company. It includes factors like:
Companies with strong governance allow investors to have confidence that the business is being run responsibly, ethically, and with proper oversight (Investopedia, 2024).
ESG investing allows investors to align their portfolios with their values and make a positive impact. According to PwC's Global Investor Survey 2022, the vast majority of investors now see sustainability as a priority for companies. ESG funds allow you to put your money to work supporting companies that are focused on environmental stewardship, social responsibility, and good governance.
By investing in ESG funds, you incentivize and encourage sustainable, ethical business practices. Research shows that companies with high ESG scores tend to be better managed overall. ESG funds favor companies that are reducing their carbon footprint, supporting their workers and communities, and promoting diversity and inclusion. Your investment dollars help reinforce these positive behaviors.
In addition, ESG funds allow you to align your portfolio with your personal values around issues like climate change, human rights, and corporate responsibility. Rather than feeling you are compromising your principles for investment returns, you can make a difference through your investment choices.
There are several types of ESG funds available to investors seeking a sustainable approach:
ESG mutual funds allow investors to pool their money with other investors to purchase a collection of stocks, bonds and other assets that meet certain ESG criteria. Top ESG mutual funds include the Fidelity Sustainability U.S. Equity Fund, Vanguard ESG U.S. Stock ETF, and Calvert Balanced Fund.
ESG exchange-traded funds offer a convenient way to invest in a portfolio of stocks that meet environmental, social and governance standards. Popular ESG ETFs include the iShares ESG Aware MSCI USA ETF, Vanguard ESG U.S. Stock ETF, and Nuveen ESG Large-Cap ETF.
ESG index funds track a benchmark of stocks selected based on ESG criteria, providing broad market exposure while aligning with values. Top options are the iShares ESG Aware MSCI EM ETF, Morgan Stanley ESG Focused Index Portfolios, and Dimensional ESG Core Equity Fund.
Actively managed ESG funds involve managers selecting investments based on financial analysis and ESG criteria. Top picks are Pax ESG Beta Dividend Fund, Calvert Equity Fund, and Neuberger Berman ESG U.S. Equity Fund.
Research shows that ESG funds have delivered competitive returns compared to traditional funds. According to Statista, the S&P 500 ESG Index and the standard S&P 500 Index have had similar performances. This indicates ESG funds can match broader market returns.
ESG funds have also demonstrated resilience during market downturns. While the major ESG funds have faced losses in 2022, most have outperformed the S&P 500's decline as of December 2022 according to Bloomberg. This suggests ESG funds may provide downside protection in bear markets.
The emphasis on risk management inherent in ESG funds can provide diversification benefits as well. By screening out certain risky sectors and emphasizing stable, sustainable companies, ESG funds may have lower volatility. This was evidenced in mid-2023 when ESG returns rebounded faster than the S&P 500 according to Investment News.
Constructing a well-balanced ESG portfolio takes some research and planning. Here are some tips for investors looking to align their investments with their values:
First, take time to assess your financial goals and define your values. Are there certain environmental or social issues that are important to you? This will help guide you in selecting appropriate ESG funds.
Next, research ESG funds across different asset classes like stocks, bonds and real estate. Look for funds with a solid track record, reasonable fees and a portfolio aligned with your values. Diversify across at least 3-4 funds to reduce risk.[1]
When building your portfolio, aim for a mix of asset classes based on your risk tolerance and time horizon. For example, a growth-oriented ESG portfolio might contain 70% stocks, 20% bonds and 10% real estate/alternatives.[2]
Rebalance your portfolio periodically to maintain your target asset allocation as markets shift. You may also want to reassess holdings if your values or priorities change.
With some diligence, you can construct an ESG portfolio that reflects your financial goals and values. The options for responsible investing continue to expand.
[1] https://www.calvert.com/calvert-model-portfolios.php [2] https://www.nuveen.com/en-us/model-portfolios/esg-growthHere are some of the top-rated and most popular ESG funds across various categories:
ESG index funds track indexes composed of companies that meet certain environmental, social, and governance criteria. These passively managed funds provide broad market exposure while allowing investors to align their investments with their values.
Some examples of popular ESG index funds include:
The key benefits of ESG index funds include:
Overall, ESG index funds offer a low-cost, diversified approach to values-based investing.
Actively managed ESG funds are mutual funds where managers hand select investments based on ESG criteria. Unlike passive index funds, the managers actively buy and sell stocks to try to beat the market. Some benefits of active ESG funds include:
Examples of top performing active ESG funds include:
Actively managed ESG funds allow for a more targeted approach than passive index funds. The focused stock picking by managers provides investors with funds closely aligned to their values.
In summary, ESG funds provide a compelling option for investors looking to align their portfolios with their values and make a positive impact. Key takeaways include:
For investors aligned with ESG principles, integrating these funds into a diversified portfolio can be a straightforward way to invest in line with your values without sacrificing returns.