With such a significant shift towards sustainability and ethical business practices in recent years, in addition to an uncertain future of market volatility due to the recent pandemic and global recession, it’s no surprise that environmental, social, and governance (ESG) investing comes up regularly in client conversations. In addition to investment performance, many of today’s investors also care about the impact their investment decisions have on society and the environment.

It’s crucial that wealth managers stay up-to-date with the needs of their clients— and the demand for sustainable and ethical investments is a growing need. Firms must evolve and understand this new set of expectations if they want to attract and retain a strong and profitable client base. After all, if you don’t understand exactly what your clients care about, how can you successfully serve them?

With that in mind, here are three things your firm needs to know about ESG investing.

1. Your Clients Want to Invest Responsibly

Whatever the reason, maybe a new generation with a focus on sustainability or recent suggestions from industry experts that sustainable investing carries less risk through volatile market conditions, investors want to know what’s happening beneath the numbers. They’re interested in whether the companies that underlie their investments hold stocks directly, through an index, or via actively managed funds. In addition, they want to know if the company is holding themselves to ethical, moral, and best-industry standards. From an investor’s point of view, it’s very bothersome when the CEO of a core holding is called to testify before Congress on questionable business practices.

ESG investing isn’t only about avoiding sin stocks. It’s about investing in companies that actively pursue excellence in terms of ESG attributes, while continuing to deliver strong investment results. Advisors must now be more sensitive and forthcoming when it comes to client questions and concerns about business practices that may involve moral, legal, and regulatory issues. 

Whether it’s their own strongly-held beliefs or the younger generation’s influence, it’s critical to understand that these investors are interested in building a portfolio that reflects a certain set of values.

2. ESG Investing is Here to Stay

The interest in ESG criteria is more than just a passing investment fad. The impact big corporations make on the environment (as well as the way they treat their workforce and support their local communities), is often pushed into the spotlight, and these factors go to the heart of whether a business is sustainable in the long run. 

In a recent survey of over 600 institutional investors that collectively manage more than $9 trillion in assets, Edelman Research found that virtually all investors expect that boards will oversee at least one ESG topic, and more than half expect ESG initiatives to have a favorable impact on corporate growth.

Since sustainability is, by definition, a long-term issue, younger investors are increasingly engaged in where their money goes and how they can incorporate their values into their investments. A recent FactSet study of high net worth investors notes that 90% of millennials want to direct their allocations to socially responsible investments. For many investors, ESG criteria are no longer an added bonus, but a must-have.

3. The “Angel” in the Details: Measuring ESG Isn’t Always Easy

Although ESG investments are in high demand, measurement isn’t simple or easy, so it’s important to really dig deep to better serve your clients and help them make the best decision. MSCI, Sustainalytics, and Bloomberg all offer ESG metrics, but there’s no definitive criteria. ESG ratings have many layers, which can make it challenging to measure an investment’s sustainability. There are so many factors that can be included in a rating and they’re not all completely objective, meaning companies that are outstanding in many areas can get their overall score dragged down by poor ratings in other areas. It’s crucial to get behind the aggregates and understand why investments have particular ratings, at least until there is a single industry standard.

It’s the responsibility of wealth managers to look past the headlines in an effort to understand and explain what portfolio companies are doing. Successful wealth managers must match their clients’ expectations with investments that meet their values and aspirational goals, not just their financial needs. While some may think that ESG investing doesn’t come with the high returns they’re used to, the facts suggest otherwise. This research from Morgan Stanley suggests that, actually, “incorporating environmental, social, and governance (ESG) criteria into investment portfolios may help limit market risk.”

In this new world, it’s not just about what you make (returns), what you keep (taxes), or what everyone else is doing (index returns). It’s how you make it. And how you look yourself in the mirror the next day. Download our white paper, A Practical Approach to ESG Management, to find out more about how you can support your clients in their ESG investment strategies.