If you’ve been anywhere near investing circles the past few years, then you’ve probably seen a few buzz phrases take center stage:
1.) Socially Responsible Investing (SRI) – also known as social investment, sustainable socially-conscious, green or ethical investing – is any investment strategy which seeks to consider both financial return and social/environmental good to bring about social change regarded as positive by proponents.
2.) Environmental, Social and Governance (ESG) – is a set of metrics related to intangible assets within the enterprise, as a form of “corporate social credit score”. Research has shown that these intangible assets comprise an increasing percentage of future enterprise value. (Which means that Wall Street tends to currently like them.)
The rise of these terms has signaled to markets that, for many, the ultimate value of an investment isn’t just about the returns it delivers. A growing class of investors are wanting their money to make more positive impact on the world and its people. But they are starkly different.
While both ESG and SRI are concerned with similar outcomes – producing an overall “better”, more eco-conscious or people-friendly future – they’re of distinctly different schools of thought. And as strategic parts of your portfolio, should be considered in different ways.
Keep reading, because we’ll dig into the distinct difference between the two. We’ll also show you how Signet Wealth considers the implications of each. Let’s go!
When SRI first burst onto the scene in the early 2000s, it was called SRI for “socially responsible investing”.
At that point, the entire concept was much broader, and had less in the way of benchmarks.
Over time, the acronym for SRI has unofficially morphed into “sustainable, responsible and impact investing.” It’s the same idea, but with different terminology and more rigorous vetting.
A couple things that differentiate SRI specifically are:
Negative Screening: Negative screening (or exclusionary screening) excludes certain securities from investment consideration based on social or environmental criteria. In other words … it’s the way you keep out stuff you don’t want. Let’s say that you’re looking to move your portfolio away from firearms entirely. A Signet Wealth Advisor (or other financial pro) might screen for and steer you away from firearms manufacturers, importers, exporters, ammunition suppliers, hunting + sporting retailers, and military-related investments.
SRI also incorporates the concept of shareholder advocacy – using the proxy process to engage with companies to be, among other things, better corporate citizens, more transparent and focused on risks, such as climate change.
This means selling an individual stock or economic sector, because of their negative impact, because of its negative impact, and refusal to make a change through engagement – such as the campaign to divest from companies doing business with South Africa in the 70s and 80s.
Overall, SRI is typically a qualitative strategy that uses filters and levers to enhance the quality of your portfolio – relative to your risk tolerance, and in line with your values.
By and large, ESG is a criteria, or a set of factors that measure how investments can be scored.
Environmental factors include the ways a company offsets its greenhouse gas emissions, whether their products are sustainable, if it uses natural resources, recycles, etc. Most anything directly related to its environmental impact is considered.
Social components include elements inside and outside of the company – do they participate in community building, are they active in diversity and equal-opportunity hiring, are they conscious and active in prioritizing human rights and more.
Governance: Governance (or corporate governance) refers to the company’s leadership and board, including whether executive pay is reasonable, if the company’s board of directors is diverse and whether it’s responsive to shareholders.
ESG research and ratings firms assign scores relative to other companies in the sector, or across the broad market. These ESG scores are used to create indexes, mutual funds and ETFs.
As such, ompanies face growing pressure from governing bodies and investors to provide transparency around their options and comply with ESG best practices.
The Main Difference:
Let’s recap it simply:
-SRI Is a qualitative strategy for improving your investment portfolio on the altruistic front.
-And ESG is one set of metrics for potentially evaluating those investments and securities you’re interested in.
While the main objective of ESG valuation remains financial performance, an ESG score is calculated based on how an organization is seen to be performing – in essence, what is available information in the public domain.
As Kiplinger notes, “SRI investing leaves room for judgment calls that better align with investors’ values. Meanwhile, ESG investing is more vulnerable to companies gaming the system – artificially bumping up their scores with “greenwashing” tactics.”
For instance, companies that aren’t widely-lauded for their world-saving or green purposes (like Exxon Mobil, McDonalds, or Phillip Morris) are beginning to land on lists of ‘socially-responsible’ companies, despite their corporate heritage being seemingly antithetical to a “greener” or more socially-conscious world.
Because ESG scores only measure how corporate behaviors are reported, part of their value lies in revealing gaps between the internal corporate reality and external perception. A fossil fuel manufacturer, hypothetically, could fail to disclose environmentally non-compliant subsidiaries or suppliers, while publicizing its many charitable donations, thus manipulating its ESG score.
To paraphrase prominent investor Chamath Palihapitaya, “We need to invest in actual companies that can go and count, and legitimize the impact they have.” Like him or love him, he might be onto something.
How Signet Can Help:
At Signet, we tend to focus more on SRI. It’s a strategy we strongly believe in; however, we can work with any portfolio and will always take tax implications, gain, loss and other factors into account before recommending any investment strategies.
Financial Planning is our core business. Through Financial Planning, we can identify low-cost solutions and create easy-to-understand implementation strategies.
Economic cycles, downturns, and life events cannot be predicted with any certainty and therefore we believe that patience, attention and discipline are the time-honored elements of successful investing and planning. All these factors are considered and implemented through the lens of Socially Responsible Investing.
It’s our mission to provide investment resources and strategies to clients and financial institutions, helping them develop a greater knowledge and passion for sustainable, responsible and impact investments.
Let us help you find your mark with our experience.
The return may be lower than if the adviser made decisions based solely on investment considerations. All investing involves risk, including loss of principal. No strategy assures success, or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.)
Socially Responsible Investing (SRI) / Environmental Social Governance (ESG)
investing has certain risks based on the fact that the criteria excludes securities of certain issuers for non-financial reasons and,therefore, investors may forgo some market opportunities and the universe of investments available will be smaller.
LPL Tracking #1-05190203
Source 1.) “SRI and ESG are Not Interchangeable. Here’s Why We Chose SRI” – Kiplinger’s
Source 2.) “ESG, SRI, and Impact Investing: What’s The Difference?” – Investopedia
Source 3.) “ESG Funds: Green or Grift?” – Built in Beta
Source 4.) “The World May Be Better Off Without ESG Investing” – Stanford Social Innovation Review
Source 5.) “ESG investing is a ‘complete fraud’, Chamath Palihapitiya says – CNBC