What Is Sustainable Investing – the BS Meter

THE DEFINITIVE GUIDE TO SUSTAINABLE INVESTING - PART 3

This article is part of Bankeronwheels.com definitive guide to Sustainable Investing.

When investors mention Sustainable Investing, confusion and relativism reign. That’s because hardly anyone uses a consistent framework of thinking about this topic.

There are four main types of sustainable investing. 

Below we explain why we think differently than most. 

By doing so, we can try to exclude what’s the most intrusive part of Sustainable Investing – the ESG Ratings. That’s mainly because of the shocking truth behind ESG Ratings that we previously uncovered

Now, let’s look at how, despite the irrelevance of ESG Ratings for impact on the planet, you can still invest in a socially-responsible way. 

ADVERTISEMENT
Book a coaching session with us

Beginners often ask us:

  • How do I reach my goals  What investments do I need to take into consideration when e.g. Taking a Sabbaticalbuying a House or saving for Early Retirement?
  • When should I invest – I fear that investing a lump sum in this market may have a negative impact on my returns. How can timing of buying ETFs affect my performance?

Advanced investors may avoid costly mistakes:

  • Challenge my Portfolio – Here is my portfolio – what am I missing? What could derail my strategy?  What can I do to protect my portfolio from shocks?
  • Help me quickly understand – What makes Inflation Linked Bonds outperform? Bond Ladder or Bond ETFs? Why do some investors add Small Cap Value stocks to their portfolios? How can I exclude Tobacco companies from my portfolio? Are the synthetic ETFs I screened safe?  What is Factor Investing?
Currently available in English, French and Polish.
 

Our Introductory Price Levels will end soon. Book your session before new prices apply.

By signing up for a financial coaching session you support our website and our investment research. Here are other ways to help.

Ad
Book a coaching session

Beginners often ask us:

  • How do I reach my goals  What investments do I need to take into consideration when e.g. Taking a Sabbatical, buying a House or saving for Early Retirement?
  • When should I invest – I fear that investing a lump sum in this market may have a negative impact on my returns. How can timing of buying ETFs affect my performance?

Advanced investors may avoid costly mistakes:

  • Challenge my Portfolio – Here is my portfolio – what am I missing? What could derail my strategy?  What can I do to protect my portfolio from shocks?
  • Help me quickly understand – What makes Inflation Linked Bonds outperform? Bond Ladder or Bond ETFs? Why do some investors add Small Cap Value stocks to their portfolios? How can I exclude Tobacco companies from my portfolio? Are the synthetic ETFs I screened safe?  What is Factor Investing?
Currently available in English, French and Polish.
 

Our Introductory Price Levels will end soon. Book your session before new prices apply.

By signing up for a financial coaching session you support our website and our investment research. Here are other ways to help.

KEY TAKEAWAYS

  • Screening of investments has existed for centuries. It’s simple to implement by removing investments not aligned with your moral values.
  • Such investing is called Socially Responsible Investing or SRI.
  • Wall Street made SRI complicated by blending it with exclusions based on ESG ratings that are irrelevant to the goal of most individual investors willing to protect the planet.
  • SRI & ESG blends represent the vast majority of options, but pure SRI ETFs are also available.
  • Finally, there is also a good choice of Impact funds, but these are more active investments.

Here is the full analysis

RUNNING SUSTAINABLE INVESTING THROUGH OUR B.S. DETECTOR

Reinventing the wheel

You probably knew it –  Ethical investing isn’t something new.

Judaism prevented followers from investing in immoral companies and Islam – alcohol or pork products. 

As ethically-minded investors, millennials want to eliminate investments that are in conflict with their beliefs:

  • Financing Controversial Weapons 
  • Supporting Tobacco Companies or
  • Investing in Alcohol Firms, to name a few.

Investing in a broad index but removing some controversial stocks is called Socially Responsible Investing, or SRI.

Some of us may not mind that this may have a negative impact on returns (separate article).
 

But Wall Street made it complicated. 

Calling Wall Street's Bluff

You see, most ESG Ratings are irrelevant as it relates to protecting the planet

Worse, these ratings are almost always backwards-looking. They can’t predict corporate controversies.

And yet, Wall Street bundled them together with SRI filters to make things less transparent. It finances the ESG Rating industry and justifies higher fees.

Maybe because investing solely based on ESG ratings, also called ESG Investing, wouldn’t attract as much money. 

Sooner or later, a website like ours would call Wall Street its bluff.

Finally, there is the holy grail.

Highly concentrated bets, e.g. related to clean energy, sustainable agriculture or investments aimed at solving a social problem, e.g. an underserved community, are called Impact Investing.

The real stuff. 

Something that may make a difference for the planet.

Bankeronwheels.com Sustainable Investing Framework - Spectrum of Investments

Our Way of Thinking about Sustainable Investing

In summary, there are two criteria when thinking about Sustainability:

  • Whether there are SRI, or ethical / value-based security selections (#2 and #3 in the graph above)
  • Whether there are ESG-rating involved (#1 and #2 above)
The last one, Impact Investing (#4 above), is slightly different, as we explain below.
 

Killing Portfolio diversification

Now, you get the picture.

SRI Investing on its own makes sense.

Blending ESG + SRI mainly does when ratings have a relatively low impact on the security selection.

Here, at Bankeronwheels.com, we emphasize that diversification is key to long-term investing success. 

Both ESG Rating exclusions and SRI screening impact diversification.

Of course, removing controversial investments with SRI through ethical / value-based filters reduces ETF diversification.

But this is your personal choice.

The problem becomes more pronounced when an ETF only retains, e.g. 25% of the highest ESG-rated companies in a sector, further impacting diversification.

And here, no one asked you for your opinion.

HOW TO THINK ABOUT SUSTAINABLE INVESTING

Planet Focus but avoiding ESG ratings

As you’ve seen, we developed our own framework for thinking about Sustainable Investing.

But let us also make something clear.

Pure ESG Investing (#1 on the graph above) shouldn’t be called sustainable investing. 

At least from a planet perspective.

It is called like that because if you look at MSCI or Sustainalytics definitions, Sustainability is defined as… Sustainability of corporate profits.

Degree of Reliance on ESG Ratings and Value-Based Exclusions in Sustainable Investing

How to read this graph:

ESG RATING BASED INVESTING

1. ESG INVESTING

  • Approach – Investing based mainly on selecting the highest ESG Ratings or excluding the lowest ratings.
  • Reliance on ESG Ratings – ESG Ratings do impact ETF constituents.  The ETF can eliminate e.g. worst performing (bottom 25%) or, e.g. retain only the highest (e.g. top 25%)
  • Personal Values – The investor does not express her values 
  • ETF Landscape – ETFs focusing only on ESG Ratings are relatively rare 

2. ESG + SRI BLEND

  • Approach – Investing based on ESG Ratings and value-based exclusions.
  • Reliance on ESG Ratings – ESG Ratings do impact ETF constituents. The ETF can eliminate, e.g. worst performing (bottom 25%) or retain only the highest (e.g. top 25%)
  • Personal Values – The investor does express her values 
  • ETF Landscape – There is plenty of choice of ETFs in this category. That’s why we put the ETF icon in the framework graph. Unfortunately, it’s the trap/confusion zone for most investors.

NON-ESG-RATING BASED INVESTING

3. SRI INVESTING

  • Approach – Investing based only on value-based exclusions.
  • Reliance on ESG Ratings – Ratings marginally or do not impact ETF constituents
  • Personal Values – The investor does express her values 
  • ETF Landscape – There is some choice of ETFs in this category 

4. PASSIVE INVESTING

  • Approach – No exclusions.
  • Reliance on ESG Ratings – Ratings do not impact ETF constituents
  • Personal Values – The investor does not express her values 
  • ETF Landscape – Wide choice  

5. IMPACT INVESTING (Not Represented Above)

Impact Investing is not included in this graph because it takes a very different approach (separate article)

But if we had to run it through our framework:

  • Approach – Highly concentrated investments based only on planet/social impact goals 
  • Reliance on ESG Ratings Financially-material ESG Ratings do not impact ETF constiuents
  • Personal Values – The investor does express her values because it focuses on addressing a specific environmental or social issue
  • ETF Choice – There is plenty of choice of ETFs in this category 
FROM OUR TEAM
Help Us Create Great Resources

This website was created to provide you with all necessary resources to invest without incurring any additional costs.

Servers, data, and software are some of our costs, just to name a few.  Most importantly, our time is the main resource to create great content. If you find that our guides helped you on the path to financial success, you may give us a hand by buying a coffee.

By buying us a coffee you support our website and our investment research. Here are other ways to help.

FROM OUR TEAM
Help Us Create Highest Quality Resources

This website was created to provide you with all necessary resources to invest without incurring any additional costs.

Servers, data, and software are some of our costs, just to name a few.  Most importantly, our time is the main resource to create great content. If you find that our guides helped you on the path to financial success, you may give us a hand by buying a coffee.

By buying us a coffee you support our website and our investment research. Here are other ways to help.

Different shades of 'Blend'

Of course, ETF selection is not all black and white. 

But without a robust intellectual framework, an investor can quickly get lost.

The ESG/SRI Blend is the land of confusion.

In the following articles, we look at these different shades of ‘blend’.

Can you use value-based filters while minimizing ESG rating impact? 

Let’s have a look at the different benchmarks.

TALK ABOUT THIS ARTICLE

You can comment on articles, tools and discuss wider investing and personal finance topics using our newly set up community forum.

HELP US

Running this website is hard work. If you enjoyed it and want us to help others, you can contribute by setting up a coaching session or buying us a coffee. You can also use our Broker affiliate links when opening an account, at no cost to you. Here are all ways, financially and non-financially, to contribute to our growth.

DON'T MISS ANY INVESTING GUIDES AND TOOLS
SHARE THIS ARTICLE
DISCLAIMER

All information found here, including any ideas, opinions, views, predictions expressed or implied herein, are for informational, entertainment or educational purposes only and do not constitute financial advice. Consider the appropriateness of the information having regard to your objectives, financial situation and needs, and seek professional advice where appropriate. Read our full terms and conditions.