Investors have a critical role to play in promoting social and environmental sustainability. With climate change, social inequality, and other global challenges threatening the well-being of people and our planet, there’s no better time than now for investors across the world to invest wisely in companies that can drive positive real-world outcomes.
A recent article by Cambridge Associates, “A Social-Environmental Equity Investing Framework for Better Real-World Outcomes,” provides a comprehensive guide for investors to consider a framework that promotes social and environmental equity. The framework is centred around three core principles: intentionality, impact, and inclusivity.
When it comes to investing with a purpose, there are three key concepts to keep in mind: intentionality, impact, and inclusivity.
Intentionality means having a clear plan for investing that prioritizes both financial returns and social and environmental goals. In other words, it’s about investing with a purpose. Impact is all about measuring the effectiveness of your investment strategy in creating positive social and environmental outcomes. This means evaluating the real-world impact of your investments and making sure they’re aligned with your goals. On the other hand, inclusivity is about making sure that everyone’s needs and perspectives are considered in the investment process, especially those who have traditionally been excluded or marginalised. It’s about investing in a way that benefits everyone, not just a select few.
One of the key takeaways from the article is that investors can use their capital to create change that extends beyond financial returns. By adopting a social-environmental equity investing framework, investors can significantly contribute towards a more sustainable and equitable future. As such, if we follow the framework, we’d find that it is particularly relevant to private equity firms since they significantly influence the companies in which they invest. Private equity firms tend to drive positive change and promote a more sustainable economy by prioritising actionable social and environmental needs in their investment decisions.
Despite the upsides of green investments, one argument against investing in green companies is that they are riskier than other equity strategies. This argument is based on the assumption that green companies are more likely to face regulatory or legal risks due to their focus on environmental sustainability. However, this assumption only sometimes holds up under closer examination.
Research shows that companies with strong ESG performance tend to be more resilient and less risky over the long term. According to the same report shared by Cambridge Associates, companies that scored high on ESG metrics tended to have lower volatility, higher profitability, and lower bankruptcy rates than their peers. The report also found that companies with strong ESG performance tended to have higher long-term returns than those with weaker ESG performance.
This makes sense when we consider how ESG factors can impact a company’s bottom line. For example, companies prioritising environmental sustainability may be more efficient with their resources, reducing costs and improving profitability. Companies prioritising social responsibility may also have a more engaged and productive workforce, leading to higher productivity and lower turnover rates.
But of course, this doesn’t mean all green companies are low-risk investments. There are always risks associated when it comes to investing in any company, regardless of its focus on environmental sustainability. For example, a green company may face reputational risks if it is discovered to be engaging in environmentally harmful practices, or it may face legal risks when they fail to comply with environmental regulations.
Then again, these risks are not unique to just green companies. Any company can face reputational or legal risks, regardless of its focus on environmental sustainability.
Another against investing in green companies is that they may be more expensive than other types of investments. This argument is based on the idea that the market may overestimate the value of companies with strong environmental, social, and governance (ESG) performance. However, this assumption is not always true when examined more closely.
Contrary to what many people believe, research shows that companies with strong ESG performance are often undervalued by the market, especially in the short term. This is because investors may not fully recognise the long-term benefits of ESG factors, such as improved efficiency and reduced risk. However, over time, companies with strong ESG performance tend to outperform their peers, leading to higher returns for investors.
Investing in green companies is not inherently riskier than other types of investments. While there are always risks associated with investing in any company, companies with strong ESG performance are generally more resilient and less risky over the long-term. It’s important to do your own research, carefully calculate the risks you’re willing to take, and invest in companies with a strong track record of ESG performance and a commitment to improving their sustainability practices over time.