If you could invest in funds that thoughtfully filter for companies’ environmental, social, and corporate governance (ESG) practices without sacrificing expected returns, would you adopt an ESG investment strategy?

You may be interested in the idea. Many professionals like me and you have aligned our mission and values in our line of work, to make a greater impact. Alignment is crucial for us. It just isn’t the how, but the why for us in how we work. 

But as a hard-charging, high-achieving professional type, you’re no chump. While you might enjoy investing in a way that contributes to the greater good, you probably also expect to earn decent, if not stellar returns on your investments. Who wouldn’t desire to make their investments as high-achieving as they are?

Can you really do both at once? Several challenges stand in the way, so it’s understandable if you have your doubts. 

  • Return Concerns: There are tons of ESG funds out there, but few will let you maintain the sound investment principles that drive expected returns, and embrace ESG investing.
  • Greenwashing: You’ve probably seen headlines about the rapid rise of players who slip the right “talk” into their marketing materials, without actually walking the ESG walk. 
  • Trend-Chasing: You’re investing for the long-haul, not chasing fleeting financial fashions. Unfortunately, many of the “opportunities” in ESG investing may be more form than substance in this relatively new and fast-growing field.

How do you solve for the dilemma ESG investing can represent? Today, let’s explore how evidence-based investors can support their values, while still investing in a rational fashion.

First, the Evidence-Based Facts About ESG Investing

First things first: We are NOT here to direct your moral compass, or to argue for or against traditional vs. ESG investing. Rather, if you would like to learn more, we offer objective insights, rooted in evidence-based investing

Isabell Williams, Investment Strategist

Isabel Williams, Investment Strategist from Dimensional Fund Advisors: “It’s all well and good to say we’re going to be environmentally focused in a portfolio, but you need to see the evidence. I think that’s one thing that a lot of investors who are data-driven and high-achieving professionals really understand. You need to see reporting and know what you’re getting out of your investments. We all expect that on the financial side. …We need to have a similar approach and rigor to our sustainability reporting.”

ESG Investing, Evidence-Based Style

As Williams suggests, an evidence-based outlook helps confirm when promising ESG investment theory seems robust in reality. It also suggests when it may not pencil out as hoped for – no matter how well-intended it may be. Equipped with solid evidence in an often emotionally charged arena, you will be better able to make informed choices that best fit you, your personal values, and your financial goals.  

In that context, consider the multiple ways a fund manager or investment officer may incorporate ESG ratings into their decisions: 

  • Active Ownership: They may try to improve ESG performance by leveraging their shareholder power to directly influence companies’ strategies and operations. 
  • Negative Screening: They may explicitly exclude firms with low ESG ratings. (“This company is too ‘wicked’ to belong in our fund.”)
  • Positive Screening: They may explicitly include firms with high ESG ratings. (“This company is at least ‘good enough’ to belong in our fund.”)
  • Integration (Inclusion) Strategies: They may integrate ESG ratings into their total fund management strategy. In other words, ESG ratings become one among a number of factors driving if and when to include or exclude a security from the mix.  

An evidence-based fund manager is most likely to use broad ESG integration (inclusion) strategies, to complement their funds’ overarching goals. They also may engage in active ownership on behalf of their shareholders. Blending these principles of evidence-based investing with ESG ratings should help investors:

  • Continue to use sound portfolio construction principles (such as asset allocation, global diversification, and cost control)
  • Avoid less-efficient tactics (such as picking or avoiding specific stocks or sectors based on forecasts or popular appeal) 
  • Apply ESG accountability as an overlay (judiciously including the best-rated and/or excluding the worst-rated companies within an overall, well-structured portfolio)

 In contrast, many ESG funds instead prioritize security- or sector-specific judgments or forecasts within their screening strategies ahead of the tenets of evidence-based investing. This becomes just another actively managed attempt at stock-picking and market-timing.  

You may also find impact investors who are on a mission to not just invest in a venture, but to become an altruistic partner. For example, if you donate to a GoFundMe® campaign for creating eco-friendly alternatives to plastic water bottles, you’ve just become an impact investor. On a grander scale, wealthy investors may take on private equity or debt structures with an eye toward making a direct impact with their funding.  

Names and labels can vary. So, before you pursue an ESG strategy, read the fine print on what you’re actually buying and how much it’s going to cost you! 

Avoiding Being Greenwashed

As touched on above, investors, academics and practitioners alike are also working on this triple riddle for weeding out any “greenwashed” investments from their ESG efforts:  

  1. Data: How do we compel or cajole companies into reporting meaningful ESG data?
  2. Ratings: How do we consistently compare and score companies’ ESG data?
  3. Application: How do we incorporate ratings into an evidence-based investment strategy? 

 Differing Data Standards

Arguably the greatest challenge in this still-nascent field is gathering the data needed to measure corporate “goodness.” In a BNP Paribas 2019 ESG Global Survey of institutional investors, participants cited “inconsistent quality of data” as the greatest challenge to ESG investing. As one survey participant commented, “There is lots of data. The challenge is finding the right data in the right format and knowing how to use it.”

At least three hurdles exist:  

  1. Three Balls to Juggle: First, remember, “ESG” isn’t one thing – it’s three. Corporate governance data has been around the longest, so it’s the most robust. According to the aforementioned survey, generating better corporate environmental and social data is “a key part of the data challenge.” Plus, a company’s overall ESG rating can vary widely, depending on how much weight each component has in the total score. 
  2. Missing Pieces: Most corporate data reporting remains voluntary. Some requirements are coming into focus. Countries like the U.K., are beginning to require specific data reporting. Plus, activist shareholders are increasingly calling for more robust ESG reporting from the companies they’re invested in. But for now, companies often have wide leeway on what ESG data they choose to report, and how they choose to report it.  
  3. He Said, She Said: Multiple data providers produce different, sometimes conflicting data. A 2020 Research Affiliates report identified 70 different firms that create or curate ESG ratings data (not including untold numbers of private, one-off, or customized data sets). Each firm may adhere to different standards, or even its own secret sauce. In an August 2020 report, Buckingham Strategic Partners’ director of research Larry Swedroe cited a host of new studies showing “the major firms that issue ESG ‘ratings’ use sufficiently different criteria, which results in unreliable research findings when their databases are used.” 

Gathering dependable data is a challenge for any evidence-based investment approach. But it can be especially daunting when an approach is relatively new and advancing faster than best practices can keep pace with. Bottom line, strong, time-tested data reporting standards remain a work in progress. 

Rating Challenges with ESG Investing

Once we get ahold of a company’s ESG data, the next step is to use it to score and rank their relative ESG performance.  

For this, most investors depend on rating agencies. In its 2020 “Rate the Raters” report, SustainAbility counted more than 600 global ESG raters and rankers as of 2018. That number has grown since then, and each agency brings its own personality to the mix. 

It’s not necessarily bad or wrong for different rating companies to rank the same data differently. But the rich variation obligates (and allows) you to find a fit that’s right for you. In other words, if you wish to become an ESG investor, you and your advisor will want to understand what’s really behind different ratings, so you can be selective about which investments best align with your own priorities, values and goals.

Applying the ESG Ratings

There’s one more avenue to explore. How do we balance an high-achieving professional’s desire to invest “ethically” with Cogent Strategic Wealth’s fiduciary duty to advise clients according to their highest financial interests?  

We’d like to achieve both. Existing studies and practical applications suggest we can. Just as we have standard benchmarks/indexes for other purposes (such as tracking U.S. large companies, global bonds, or emerging market real estate), providers have responded to public interest by offering a growing collection of ESG benchmarks for comparing one strategy to another.

All things considered, evidence to date suggests there are cost-effective solutions available if you would like to be an ESG investor, while still pursuing efficient market returns. But the same evidence informs us, not all ESG data, ratings, and strategies are created equally.  

Dimensional offers a helpful perspective in its October 2020 paper (last revised in June 2021), “The Economics of Climate Change.” While the paper focuses on environmental-related ratings, the conclusions apply broadly across ESG investing. 

“[I]nvestors face voluminous and sometimes contradictory academic evidence,” the authors note, but, “simple, tried-and-true investing principles can help.” These principles include:

  • Letting relatively efficient markets set the pricing (rather than chasing hot trends)
  • Having well-defined investment goals
  • Maintaining broad diversification

 Whether you’re investing in ESG or traditional funds, these remain the enduring keys to a successful investment experience. They are the touchstones for navigating the uncertainty inherent in any fast-moving trend. They are the foundation upon which Dimensional is building its ESG fund line-up,  

At Cogent, we believe it’s essential for high-achieving individuals to have a plan that is as ambitious as they are. Especially when ESG investing is part of the equation, this means choosing a thoughtful investment strategy you can stick with—so you can invest and live in ESG fashion over time.

Let us show you how. When you sit down with our team today for a Cogent Conversation, we’ll listen to what success looks like for you, build a plan tailored to you, and help you execute that plan every step of the way.

Don’t manage your financial future all on your own. Book your Cogent Conversation today!  



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