If you’re committed to social and environmental causes, you may already purchase products from companies that align with your values when you shop. However, you may not be aware of the ethical investment choices that might be available right within your 401(k) plan. These funds are called ESGs.
ESG stands for environmental, social and governance. The designation is given to investments deemed environmentally or socially responsible. Here’s an overview of ESG funds and considerations when deciding whether to invest in them.
ESG Ratings Vary
There’s no definitive standard to determine whether a fund receives an ESG designation, but many organizations — such as MSCI ESG Research and the Dow Jones Sustainability Index — have their own rating systems. And they can use different criteria to rate investments, which means the same fund may receive different ESG ratings.
An ESG investment doesn’t have to meet criteria for all three categories, which is why it’s important to research funds for yourself. If your primary concern is sustainability, for example, an ESG label doesn’t necessarily mean the fund is environmentally friendly. It could have been categorized as an ESG fund because of its labor policies, diversity or leadership.
Categories Can Be Broad
ESG designations can cover a wide range of ethical considerations — even within each of the three individual components.
- Environmental. Environmental factors include sustainability and conservation efforts both within a company as well as its supply chain. For instance, a carbon-neutral business could get an ESG rating, but so could one that uses renewable resources.
- Social. Social issues pertain to how people, both inside and outside of the company, are treated. Criteria may comprise fair wages, worker health and safety, employment benefits, nondiscrimination policies and commitment to supporting social causes. This category may also apply to the products a company sells.
- Governance. Governance considerations encompass company leadership and structure, such as how equitable and diverse the company’s management is, and how ethically they conduct themselves. It can also reflect an organization’s political contributions, lobbying efforts and initiatives to improve inclusion.
Evaluating ESG Investments
While it may be important to you that a fund aligns with your values, you should evaluate it as you would any other investment — especially when you’re considering including it in your retirement portfolio. Even if the fund reflects your ethics, consider its investment risk, management and historical performance.
If an ESG fund appears to be a prudent choice for you, research the company’s investment philosophy and actions. An investment might receive an ESG designation because of how it functions in one area, but there could be other factors that don’t reflect your values.
Good Business Can Be Good for Business
While an ESG fund doesn’t ensure positive returns, many of the practices that lead to an ESG rating can be good for business and customers in the long run. Reducing waste, for example, can save money, and keeping workers happy can help avoid costly strikes. Plus, conservation can help everyone living on the planet avoid paying a premium for limited resources. Nonetheless, just as with any investment, it’s always a good idea to do your homework first and make sure ESG funds are a good fit for both your values — and your wallet.
Source
NerdWallet.com, ESG for Beginners: Environmental, Social and Governance Investing