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ESG (Environmental, social, and governance) concerns are integral to every business, representing three key factors crucial for sustainable investing. Derived from the ‘Triple Bottom Line’ (TBL) concept coined by John Elkington in 1994, ESG emphasises the importance of focusing on people, the planet, and profits (PPP) for long term sustainability. This framework underscores the significance of considering environmental, social, and governance factors alongside financial analysis, forming the foundation of Sustainable and Responsible Investing (SRI). In this discussion we will understand ESG stocks better. So, read on.
Table of Contents
Understanding ESG Investing
ESG stands for environmental, social, and governance. Investors are increasingly applying these non-financial factors as part of their analysis process to identify material risks and growth opportunities.
E stands for the environmental component, which addresses how the company affects the planet through:
- Climate change policies
- Greenhouse gas emissions
- Carbon footprint and carbon intensity
- Water usage and conservation, overfishing, and waste disposal
- Renewable energy usage
- Recycling and disposal practices
- Green products, technologies, and infrastructure
- Green initiatives like promoting carpooling, public transportation, bicycle commuting, etc.
S stands for the social component, covering issues affecting employees, customers, consumers, suppliers, and the local community as well as:
- Employee treatment and compensation
- Employee engagement and turnover
- Employee training and development
- Employee safety policies and sexual harassment prevention
- Diversity and inclusion in hiring, promotions, and pay increases
- Ethical supply chain sourcing
- Mission or higher purpose
- Customer service performance
- Consumer protection activity, including lawsuits, recalls, and regulatory penalties
- Lobbying efforts and public stance on social justice issues
G stands for the governance component, which relates to board independence, leadership effectiveness, and business ethics. Specific topics include:
- Executive compensation, bonuses, and perks; along with their long term business vision
- Policies that define and enforce ethical business practices
- Diversity of the board and management team
- Potential for conflicts of interest for board members
- Shareholders’ ability to nominate board candidates
- Whether term lengths differ among board members
- Separation of the chairman and CEO roles
- Whether the company issues dual- or multiple-class stock
- Transparency of shareholder communications
- History of shareholder lawsuits
It is important to understand these:
- ESG metrics are not commonly part of mandatory financial reporting, though companies are increasingly making disclosures in their annual report or a standalone sustainability report.
- ESG investing often includes defensive stocks, which are shares of companies that tend to be resilient during economic downturns due to their stable earnings and consistent dividends.
- Understanding the concept of floating stocks is essential not only for financial analysis but also for ESG investing since ESG investors often consider a company’s float stocks in the context of its environmental and social impact, as well as its governance practices, to make sustainable and responsible investment decisions that align with their values and goals.
Advantages of ESG Investing
Focusing on ESG stocks can provide investors with a host of benefits. Let’s take a brief look at a few of them.
Risk Reduction
Investing in ESG stocks offers the advantage of reduced portfolio risk. Companies emphasising ESG factors typically exhibit lower volatility and downside risks compared to those neglecting these considerations.
Possibility of High Returns
Focusing on ESG stocks can potentially lead to higher investment returns. Research consistently demonstrates that companies prioritising ESG tend to achieve superior returns compared to those that do not.
Strong Leadership
ESG fosters sustainability and resilience in companies, reflecting strong leadership with foresight. Organisations dedicated to ESG principles often benefit from effective decision-making, contributing to their long term success.
Promotes Ethical Companies
ESG investing indirectly encourages ethical behaviour in companies. By evaluating firms based on environmental, social, and governance criteria, investors incentivise ethical and responsible practices, promoting corporate integrity.
ESG Mutual Fund Offerings in India
- Most top fund houses, including SBI Magnum Equity, Aditya Birla Sun Life, ICICI Prudential, Quantum India, Kotak Mutual Fund, and Axis Mutual Fund offer ESG investment opportunities.
- ESG funds use parameters such as carbon footprint and new employment generation strategies to assess the ESG impact of the companies. Thus, companies with higher carbon outputs such as tobacco manufacturers, coal miners, oil and gas companies, and fossil fuel-based power generators typically do not participate in ESG fund portfolios. On the other hand, companies in the technology, renewable energy, healthcare, and FMCG space feature heavily in these portfolios. Learn about treasury stock and its impact on a company’s financial statements.
- If one wants to achieve strong financial returns while supporting companies with sustainable, future-oriented business practices, then ESG investing may be right. Share India experts can help in choosing the right set of securities to invest in; tailor-made for portfolio requirements.
Conclusion
Understanding ESG stocks is crucial for aligning investments with sustainability and ethics. These stocks offer reduced portfolio risk, higher returns, and promote ethical behaviour in corporations. Grasping ESG dynamics empowers investors to make informed decisions for long term financial growth and societal well-being.