When ESG forgets the S and G

Frank Summers |

When I think of ESG funds, I picture a cheerleader “Give me an E! Give me an S! Give me a G!....No really, give me an S! and a G! Where’s the S and the G?!” 

In recent years, there has been a lot of discussion about Environmental, Social, and Governance (ESG) and values-based investing. There’s just one thing: there’s been such a strong focus on the E that the S and the G have been left behind. Let me explain.

First, we need to understand why there’s a focus on the environment. Environmental issues are important, and many of us want to protect the planet, or at least avoid harming it. It’s easier and more straightforward to measure impacts to the environment. It’s much harder, and sometimes controversial, to measure societal or governance impacts. There’s also one very important point: there’s a real difference between a company that doesn’t damage the planet vs. a company that takes intentional steps to improve the planet.

A software company, for example, might be eligible to be considered an ESG investment, simply because the work to create it, sell it, and how customers use it, do little to nothing to impact the environment. Does that really make it an ESG investment? Some think so. Maybe a better example is a fossil-fuel based energy production company that has a history of polluting the planet, of not cleaning up after themselves, etc. That’s clearly not an investment that would be considered to be ESG. What about the energy company that drills for oil (which is, unfortunately, still a necessity in our world), but also invests heavily in development of green energy, or has a program to replenish trees and forests to absorb the carbon released by its products, and has strict safety and protection protocols to mitigate any pollution that might result from an accident?

Fund companies want to give customers what they want, and the public wants ESG funds. The number of global ESG funds grew to 7,486 as of September 2021, up from 4,153 at the end of 2020.  It’s relatively easy to find companies that don’t do specific things, such as companies that don’t release a lot of carbon. Or that aren’t engaged in clearing forests, or polluting the ocean. Because those actions are relatively straightforward, and because fund managers want to answer demand from the public, many will create a mutual fund or ETF that’s based on companies that don’t engage in bad actions and label it ESG. It’s much harder to quantify the impacts of a company’s proactive actions toward the environment and even harder to measure the actions of a company toward social and governance goals.

So what about the S and the G?
Many of us in the LGBTQ+ community don’t want to invest in companies that support anti-LGBTQ legislation or who give to the politicians who want to enact it. Many even boycott those companies. With more than 250 anti-LGBTQ bills introduced in 2021, it’s a scary time for our community. We want to use every tool we have to protect our rights, and that includes our spending and investing. Again, there’s a massive difference between a company that doesn’t engage in wrongdoing and a company that actively advocates for the community.

Let’s face it: when it comes to societal things, some people don’t want companies to take any kind of social position. Fund managers know this and are going to consider that when building their ESG criteria. 

Governance is important to many of us, too, though it’s a pretty broad term. It can include things such as ‘what’s the make-up of the corporate board of directors?’ or ‘does this company have policies to provide healthcare to its trans employees?’ Do they follow highly ethical practices even above and beyond what is legally required? Do they follow good self-governance/oversight procedures? Some would argue that societal pressure has pushed some corporations to include more women and people of color to their corporate boards and positions of power. The last Fortune 500 company to have an all-male Board of Directors added a woman in July 2019. Women and people of color occupied 38% of Fortune 500 companies’ board seats in 2020, an increase from 34% in 2018. Women overall made up 27% of board seats in 2020, while people of color overall made up close to 18%.  Only 2 women lead Fortune 500 companies, leaving 498 male CEOs. Of those, only 4 are black.  

Social and Governance impacts are not just hard for fund managers to quantify. It’s also a challenge for ratings firms, which is why you’ll see many of them rely on carbon footprint and other environmental factors, and possibly some high level social or governance criteria.

What can an investor interested in Social and Governance do?
When I work with clients, I ask them about their personal values, and if any of that should be considered when planning investments. Then I start my research. Will it answer the concerns of the client? Will it be a good investment that aligns with the needs of the client? What is the performance of those companies or funds?

Some fund managers and ratings firms are realizing that it’s as important (or more important) to recognize the companies that are actively doing good as it is to reward those who simply exist without doing wrong. While they catch up, I will keep researching and helping clients find investments that meet their objectives for investing and for being good corporate citizens. 

I’d love to hear from you. Do you have feedback on this post? Would you like to talk about ESG investing or any other topic? Do you have comments or requests for future topics? Please let me know.