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Addressing the great ESG performance myth

The belief that considering environmental, social and governance factors will detract from potential long-term investment performance can hold people back from investing responsibly. It shouldn’t.

Take a look at our glossary for explanations of the investment terms used throughout this article.

If you think the most successful investing strategies are those that pay little heed to the planet and its people, think again.

We know from conversations with our customers that performance remains a top concern when it comes to responsible investing. We believe it’s essential to dispel any misconceptions that might be holding you back.

The view that you must expect lower financial returns if you want to invest responsibly probably stems from old debates around so-called ‘ethical’ investing.

But ethical approaches – which tend to focus more on moral judgements – are very different from responsible investment strategies that integrate environmental, social and governance (ESG) factors to improve investment decisions, and so financial outcomes.


Research on ESG and performance

There have been many studies examining the relationship between the integration of ESG into investment strategies and financial performance.

In a recent 2021 study1, researchers at the NYU Stern Center for Sustainable Business looked at the conclusions of more than a thousand research papers on the topic that were published between 2015 and 2020.

They found that few studies (14%) found a negative relationship between ESG integration and the financial performance of investment strategies. On the other hand, most (59%) showed either similar or better performance relative to conventional investment approaches.

Please remember that past performance is not a guide to future performance.

59%

Studies finding ESG investment strategies have delivered similar or better performance versus conventional approaches (2015-2020)

(Source: NYU Stern Center for Sustainable Business)

The NYU study also highlighted research indicating the greater resilience of ESG-focused funds during crises. It cited the performance of the FTSE4Good set of ESG stockmarket indices, for example, which were found in a 2017 study to have lost less ground – and recovered more quickly – after the 2008 global financial crisis than their conventional counterparts2.

The value of a fund's assets will go down as well as up. This will cause the value of your investment to fall as well as rise and you may get back less than you originally invested.


The logic of ESG investing

These findings should not come as a surprise. After all, why should investment strategies that disregard ESG factors perform better over the long run than those that take them into full account?

By integrating ESG issues in their analysis and decisions, investment managers can paint a more complete picture of what is driving the risks and potential returns of the assets in their portfolio. Looking at a company’s financials in isolation can only tell you so much.

It is true that over the short term, at least, a company may get away with profiting at the expense of the environment or society. Eventually, though, it will probably end up landing the company in hot water, with damaging regulatory and reputational costs borne by its investors.

Active investors can engage with the companies they invest in to encourage greater consideration of the environment or society, or to push for improved governance, where they believe it will improve investment outcomes. Such engagement is a pillar of many active ESG investment strategies.


The prospects of future growth

There is widespread recognition of the urgent need to address the world’s most pressing challenges, from access to healthcare to combatting climate change. Indeed, almost two-thirds of people surveyed worldwide by the United Nations believe climate change is a global emergency3.

Addressing the climate crisis and other global challenges demands that we change the way we do things. The need to lower global emissions means heavily polluting industries and companies face the risk of being regulated out of existence. Some businesses also face physical risks from climate change, such as rising sea levels.

Looking at assets through an ESG lens can help identify those with more positive long-term prospects. Rather than dismissing certain sectors entirely, ESG strategies can distinguish between companies that have robust plans to transition and those that do not.

Companies that are improving their ESG credentials appear more likely to benefit from a structural shift towards a more sustainable economy. After all, we believe many promising investment opportunities over the coming decades look set to come from solving the world’s challenges.


The pursuit of your goals – and values

You can now look to achieve your own long-term investment goals without it being at the expense of the planet or its people. There are a growing number of strategies, each with their own targets and approach, from which to choose.

However you choose to invest, do not be swayed by the myth that paying heed to the environment and society will leave you worse off. In our opinion, underperformance fears should not dissuade you from putting your investments to work responsibly.

The views expressed in this document should not be taken as a recommendation, advice or forecast. We are not able to give any financial advice. If you’re at all unsure about the suitability of your investment, please speak to a financial adviser.

1 https://www.stern.nyu.edu/experience-stern/about/departments-centers-initiatives/centers-of-research/center-sustainable-business/research/research-initiatives/esg-and-financial-performance
2 Wu, J., Lodorfos, G., Dean, A., & Gioulmpaxiotis, G. (2017). The Market Performance of Socially Responsible Investment during Periods of the Economic Cycle—Illustrated Using the Case of FTSE. Managerial and Decision Economics, 38(2), 238–251
3 Climate change is a ‘global emergency’, people say in biggest ever climate poll | People globally want more action to tackle climate crisis: UNDP survey | UN News