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October 27, 2014 at 08:00 PM
Interest in sustainable investing and socially responsible investing continues to grow, experts say. According to the Forum for Sustainable and Responsible Investment, 720 funds classified with an environmental, social and governance (or ESG) focus held $1 trillion of assets at year-end 2012.
That’s a 78% increase from the $202 billion held by 260 funds at year-end 2010. If your clients aren’t already asking about sustainable investing, there’s a good chance they will be soon.
The terminology involved with sustainability and sustainable investing can be confusing. Beyond the ESF classification are other definitions that expand the concept of sustainability to include a wider range of organizational behaviors.
The terms “socially responsible investing” and “responsible investing,” for example, are also used to describe investment management approaches that incorporate ESG analyses. Despite the nomenclature proliferation, the approaches generally agree on the need for companies to both avoid doing harm—i.e., avoid environmental disasters—and to promote positive environmental change.
Corporate Values
Sustainability concerns are global in their reach. Brazilian power company Cemig (CIG), for instance, manages the largest electric energy distribution network in Latin America, which is one of the four largest such networks in the world. Cemig’s sustainability efforts date back to the early 1960s, says Luiz Augusto Barcellos Almeida, head of corporate sustainability.
The company’s first large-scale hydroelectric plant, built in 1962, incorporated Brazil’s first multiple-use reservoir. In addition to providing electricity generation, the plant made the river navigable and controlled floods, benefiting the entire population of the São Francisco River valley in the northern area of Minas Gerais.
The theme of climate change has been a formal part of Cemig’s strategy since 2012. Among other initiatives, the company has committed to the following priorities: the generation of electricity from renewable sources, implementation of conservation and electricity efficiency projects, investment in new energy sources, assessment of the risks and opportunities of climate change, and improvement in process efficiency, technology and innovation programs.
Cemig’s sustainability efforts have brought it recognition. The company was first included in the Dow Jones Sustainability Index in 2000, Almeida notes and has been included every subsequent year. It is the only Latin American electricity-sector company to be part of the index since its launch.
Comparable Performance
Investors are unlikely to argue against corporations pursuing sustainability unless, of course, that effort has a detrimental impact on investor returns or increases risk. It’s a trade-off: How much return (or risk) are investors willing to give up (or take on) to support a company with sustainability and other ESG practices that support their values?
Research focusing on sustainability as an investment strategy suggests that the “return or values” question is a false dichotomy. TIAA-CREF quantitative portfolio managers Lei Lao, CFA, and Jim Campagna, CFA, recently considered the return and risk performance of several leading socially responsible investing (SRI) equity indexes. They published their results in recent white paper, “Socially Responsible Investing: Delivering Competitive Performance.”
The authors selected five widely known U.S. equity SRI indexes with track records of at least 10 years: the Calvert Social Index, Dow Jones Sustainability U.S. Index (DJSI U.S.), FTSE4Good U.S. Index, MSCI KLD 400 Social Index and MSCI USA IMI ESG Index. They then compared the indexes’ returns with those of the Russell 3000 and the S&P 500 indexes. They also calculated volatility measures and Sharpe ratios to understand risk-adjusted results.
