«Environmental, Social & Governance» are the principles that define each of the initials of this english acronym, ESG.
Three approaches to analyze the ESG
The weight of these criteria has been accelerated by the arrival of the COVID-19 virus in the year 2020 in different areas. Nevertheless, the greatest effects have been seen in investors and therefore in the products they contract.
A component, which has been relevant in the investment world for years, has, nonetheless, recently become a phenomenon, especially in Spain, following the increase in value that various products offer to ESG.
Investors wishing to adjust their investments to their personal values or diversify or strengthen their portfolio, should understand the framework of these initials.
Each component of the acronym deals with a different objective.
The first initial, “E” (for ‘Environmental’), covers the impact of activities of each company respective of the environment in which it operates, either directly or indirectly. That is to say, it evaluates energy consumption, carbon emissions, energy policies and the environmental quality of its products, etc.
The second initial of this abbreviation, the “S” (for ‘Social’), includes everything pertaining to business administration, regarding groups of interest, whether they are clients, suppliers, employees and even society itself, as well as aspects of training amongst other things.
Finally, the “G” (for ‘Governance’) refers to everything concerning corporative governance of a company, for example, transparency policies, diversity in boards of directors, etc.
Intrinsic principles to the socially responsible investment
These three criteria (ESG) are considered in the style of socially responsible investment (ISR in spanish or SRI in english), taking into account all the traditional financial criteria (cost-effectiveness-risk) as well as the extra-financial principles mentioned before in the analysis procedures and decision-making, as shown in the Guide to understand the social and sustainable investment by Spainsif.
In particular, this extra financial analysis identifies and assesses the good ESG performances of the companies depending on the area where they operate, such as praxis related to the Good corporate governance, the environmental protection measures or the gender discrimination.
This idea of investment can be applied to all types of financial products, whether they are investment funds, personalized or company pension plans (the latter being the more common type in Spain) or life insurance, savings, finance companies, capital risk funds, which should explicitly state the investment policies carried out in order to be considered as such.
For this reason, not all ISR funds are the same in terms of management since some of them will carry out exclusion policies with the aim of excluding certain regulations considered unethical or controversial or policies integrating ESG factors, entrusted to those products which take into account environmental, social and good corporate governance criteria.
Similarly, other more commonly known investment policies are voting policies, which focus on variable income, where there is collaboration between the corporations and governments investing, in order to optimize ESG aspects. Meanwhile “best in class” gives scores to companies for their ESG strategies, only investing in those with the highest scores.
In impact investments, the social component is more important tan financial return, a similar philosophy to those policies centered on sustainability.
Despite the implementation of these policies, many investors question how they can be guaranteed that an investment product of this type will not fail either because its label is related to green washing practices or because it creates confusion.
For this reason, the European Commission has embarked on the challenges of defining this problem as well as financing sustainable growth with the implementation of the Sustainable Finance Disclosure Regulation (SFDR).
This regulation, implemented within the development framework of the Plan of Action of the European Union, has been in place since March 20 and aims to unify criterio in terms of sustainable investment material. In this way, a common language will be created for all investors so that they can easily identify and verify the degree of sustainability of each investment fund.
ODS, evidence of the impact of responsible investment
Having approached and discussed each of the characteristics of the principles of ESG through the aforementioned regulation, when showing the impact of these factors in the processes of socially responsible investment, it is necessary to link performance with each of the goals confirmed by the “Objectives of Sustainable Development” (ODS in spanish).
Adopted in 2015 by 27 sovereign member states of the European Union, these world objectives, a total of 17 sustainable development goals, aim to eradicate world famine, protect the planet and guarantee that everyone in the world, without discrimination, enjoys peace and prosperity.