You should do your homework before jumping on this increasingly popular bandwagon
Responsible investing (RI) is on the rise in Canada and around the world, so more investors are wondering what it is and how to get involved in it.
What is responsible investing?
Responsible investing (RI), also known as socially responsible investing, is the practice of investing money in companies and funds that have positive social impacts. You can seek out funds with companies that are involved in businesses that you want to encourage with your funds.
Depending on what you value, you can support companies that engage in social justice, environmental sustainability, alternative energy or clean technology, promoting women’s leadership, or enhancing diversity initiatives. On the flip side, you can also ensure that you don’t support companies that support non-environmental practices, such as coal-mining, or addictions, such as alcohol, tobacco, or gambling.
You can invest in a company with good social value either through investing in an exchange-traded fund (ETF) or a socially conscious mutual fund. Some of these funds are known as ESGs – environmental, social, and governance funds.
There are an increasing number of these new funds. Mutual funds and ETFs allow you to access multiple companies across many sectors with a single investment. However, make sure you read the funds’ prospectuses carefully to determine which philosophies the fund managers are using, along with these investments’ potential profitability.
Why does RI matter?
RI has taken off in the marketplace in recent years as more investors have recognized the opportunity to make a good return while contributing to an important social, environmental, or even governance issue that matters to them.
Remember that socially responsible investments are still investments, so make sure you weigh both their benefits and drawbacks as well as their potential for return, so your money can both earn you a good return and satisfy your social goals.
What are RI’s benefits?
- It improves risk management: Responsible investing can reduce exposure to risks that may not be visible on a company’s financial statements. That’s because a company is more than just its numbers. While it can be tricky to analyze a company’s RI performance, when you read beyond the numbers to see if its activities align with your values, you can get a more holistic picture than just looking at its financial metrics. That kind of analysis also provides you with a view of how it’s managed, how it acts, and what its long-term prospects are for success.
- It enhances long-term financial performance: This kind of impact investment can also lead to better long-term financial performance. In addition to showing that the company may have superior risk characteristics, a Carleton University study also found that RI equity mutual funds in Canada financially outperformed their respective benchmarks 63% of the time. That study also showed that RI fixed income and balanced mutual funds outperformed their respective benchmarks 67% of the time, and recent reports from the U.S. have shown similar results. They noted that responsible equity mutual funds met, or exceeded, the median return of traditional equity funds 65% of the time and RI funds also had equal, or lower, median volatility about two-thirds of the time.
- It contributes to positive changes in society: In addition to its financial benefits, this socially responsible RI can also help investors contribute to positive social and environmental outcomes. This occurs by providing capital to corporations that are leaders in sustainability or improving a company’s ESG performance through shareholder engagement. Shareholders can ask a company to disclose, and regularly report on, its responsible investment plans, whether that’s in managing climate risk or improving diversity, or any other objective related to corporate governance. Tracking those indicators allows the company to be measured, which can draw other like-minded investors to support it.
Common misconceptions about RI
- It involves investing in a specific strategy or product: RI doesn’t necessarily require that. It simply involves including RI or ESG criteria in your investment decision-making, so you ensure that you account for all relevant factors when assessing your risk and return in your portfolio management.
- It has lower investment returns: RI investment strategies do not require sacrificing returns. They should, in fact, enhance your risk and return characteristics. Investors apply a range of techniques to identify risks and opportunities that might remain undiscovered without an RI data and trend analysis.
- It’s the same as ethical, socially responsible, and impact investing: There are many terms for all the ways you can invest in RI or environmental, social and governance (ESG) issues, and they’re often used interchangeably. But, responsible investment is broader than just ESG funds, which may primarily focus on moral or ethical goals. Investors who just want financial performance can also pursue responsible investment to enhance the long-term performance in their portfolio management.