But the subject is potentially vast and there is probably not a one-size-fits-all answer. So I would be asking another couple of questions first in order to try and get to a more accurate answer.
These would be:
- What do you mean by ESG exactly?
- Why are you investing in this way?
To the first question: what is ESG investing to you? Unlike most other themes such as commodities, infrastructure, US smaller companies or whatever, you can’t exactly invest in E, S and G. They are just metrics by which funds can be judged.
And the definition can be very wide-ranging and measurement poor. Ironic for a 'metric' really, but there you go.
So a blanket definition of 'ESG' in my opinion is useless. What you need to be thinking about is where exactly you need the companies in an ESG fund to be on each of the three metrics.
There is a spectrum from 'not terrible' through to 'very good' on all three.
What do they have to score? Are they light green or dark green? Where are the boundaries?
Passivity seldom influences change unless it is backed up with cast iron boundaries and with a very strong conviction.For most investors ESG will be a negative screen-out of investments that they do not want to be in.
Typically from the faith-based history of ethical investment that will be avoidance of the 'sin stocks': alcohol, tobacco, adult entertainment and weapons.
Fossil fuel will often not have been included in this definition in the past but pretty much seems to be a shoo-in for inclusion these days.
More grey than green
So with vague definitions – the space encompasses ‘50 shades of green’ – consumers may well not be buying what they think and hope that they are.
'Greenwash' is rife and surely the latest mis-selling, or mis-understanding, scandal is just around a couple of corners.
So if it’s just a question of screening out certain investments then no doubt this can be achieved with a decent passive strategy.
But don’t be so sure, it’s only a few months ago that a major provider was called out by not-for-profit publisher Ethical Consumer when its "fossil fuel free" plan was discovered to have a number of investments in the supply-chain and infrastructure linked to fossil fuel companies. Oops, rather embarrassing.
But this does underline how poor the data and AI is in the ESG space.
And to my second question "why are you investing in this way?", an avoidance of controversies and industries you do not approve of is all very well and hats-off to you for following your moral compass and making the effort to do something about it.
Direct engagement and the threat of divestment is a far stronger tool.But rather like the vegetarian who does not shop at the local butchers this type of micro-boycott probably has a fairly limited effect.
In my opinion a much bigger catalyst for change and faster action is made by investing with fund managers who are looking for positive impact and who will use their vote and voice to influence change.
This can’t come about from passive funds since by-and-large they are not interested – they just follow an algorithm – whereas a fund that sets out to invest in the businesses that are making a positive difference and is using its leverage to force the pace of change will create change.
Direct engagement and the threat of divestment is a far stronger tool.
Such managers will be taking measurement seriously, they will be employing analysts to do the heavy lifting and they are the influences who lead the rest of the industry.
And that does not come about with a passive approach. Passivity seldom influences change unless it is backed up with cast iron boundaries and with a very strong conviction and that is certainly not something that the passive ESG providers can claim at the moment.
So in short, yes ESG has to be active to truly make a positive change. But the good news is that pensions and funds have the potential to change the world – and for the better. Now if only someone could tell that our new Prime Minister Liz Truss...
David MacDonald is founder of impact-focused financial planner The Path
