When it comes to managing your portfolio, no advisor has all the answers—but it helps to know the right questions to ask.
This is especially true when it comes to investing with environmental, social and governance (ESG) principles in mind.
The theme of sustainability has taken over the financial world in recent years. Today, responsible investing assets in the U.S. exceed $17.1 trillion, according to the US SIF Foundation's most recent trends report. That's up 42 percent in just two years and equates to one out of every three dollars under professional management.
But for investors who are relatively new to the ESG concept, it can be hard to figure out where to start.
“This subject has been coming up more and more often,” says Kent McClanahan, vice president of responsible investing at RBC Wealth Management-U.S. “If you look at Google searches, ‘What is ESG?’ has been trending upwards. So clients are definitely looking for this information.”
“But instead of searching randomly on the internet, why not ask your advisor the same questions? They have the tools to get you those answers,” he explains.
There's no denying that interest among investors in ESG is on the rise. According to Nuveen's 2020 Responsible Investing Survey, a full 74 percent of advisors say their clients are committed to social and environmental causes in their portfolio choices.
While ESG curiosity spans all demographics, it's particularly powerful among certain populations. “Interest in ESG is being driven by two groups: One is women and the other is Millennials,” says Angie O'Leary, head of wealth planning for RBC Wealth Management-U.S. “This is a big deal for them. They want to align their spending, investing, giving and legacy around their values. They think about this a lot.”
According to a 2019 study from Cerulli Associates, Millennials are the generation with the most interest in sustainable investing, followed by Gen X. An RBC Wealth Management survey of U.S. clients in early 2021 found women were twice as likely as men to incorporate ESG factors into their investment decision-making.
So if asking the right questions about ESG is the key to unlocking a sustainable financial future, which ones should you be posing to your advisor? Here are a few ideas to get you on your way.
1. I'm new to ESG—what is it and how do I get started?
ESG principles are essentially a more comprehensive way to look at a company or investment, beyond just profit or loss numbers on a balance sheet. By encompassing non-financial information, ESG factors give you a richer view of a company's risks and growth prospects.
For example, in the environmental bucket, you might ask questions such as: Does an organization have a large carbon footprint? Or have they worked to minimize their impact? Do they deal thoughtfully with pollution and waste issues? Does their supply chain bring up issues of water scarcity and deforestation?
Your journey will be similar in the ‘S’ and ‘G’ parts of the equation. Socially, you would ideally like to see a company with humane and safe working conditions; a positive and productive relationship with labor and customers; and a healthy and vibrant presence in the communities where it operates. Governance issues include an independent board that conducts quality audits, justifiable executive pay, diversity of race and gender among the leadership ranks.
As your research deepens, you might hone in on different subsets of sustainability, like impact investing, where you can draw a direct line to positive results, such as funding a specific clean-energy project.
Of course, this is all highly complex material, and you can't expect to be an expert right out of the gate. That's where some initial resources can be helpful, and why an advisor can help you drill down into the ESG issues that really matter to you.
“Job one is to get educated,” says O'Leary. “Our surveys have found people are extremely interested in ESG and are looking to their financial advisors to learn more, so that comes first. How should you think about ESG—both in the context of what you're already invested in and any shifts you should be making as a result.”
2. How do ESG factors impact the risk in my portfolio?
This is really what ESG investing is all about: recognizing the real risks that are present in your portfolio and making a personal judgment about whether you're comfortable with those risks or not.
A mining company, for instance, will have more exposure to environmental risks than most. Other companies may have exposure to things like tobacco, weapons manufacturing, labor troubles in the supply chain or a board of directors that's not conducting proper oversight.
Measuring all this global data can be highly technical. But, RBC Wealth Management's partnership with ESG data providers like Sustainalytics can do the heavy lifting. Advisors can work with the data to come up with a portfolio that helps you sleep at night.
“Every investment portfolio holds some level of ESG risk,” says McClanahan. “The real issue is what level of risk you're comfortable holding. If you haven't evaluated that, you're flying blind on the topic, so it's important to have those conversations with your advisor.”
3. Will ESG screening hurt my returns?
This is one of the very first questions advisors hear, and for good reason. Almost everyone is on board with investing in companies and themes that are good for the planet—but, if it harms your own long-term financial security, that's another story.
In the Nuveen survey, 85 percent of people say they're committed to investing responsibly only if returns were the same or better than the alternative.
Now the good news. The emerging consensus is that ESG investing does not hamper investment returns, and in fact might increase them. In a recent report, research firm Morningstar explains, “Sustainable funds outperformed their conventional fund peers in 2020,” with three- and five-year results looking similarly powerful. This past year, three-quarters of sustainable funds finished in the top half of their categories.
Asset managers and clients alike are becoming more aware of this performance trend. In RBC Wealth Management's 2020 Responsible Investment Survey, 84 percent of respondents recognized that ESG-oriented investing performs as well or better than a more traditional approach.
“Integrating ESG into your portfolio doesn't hurt returns, and that was really borne out in 2020,” says McClanahan. “It was a banner year from a performance perspective. That has been very encouraging.”
4. How can I align my investment portfolio with my values?
Your values and goals are unique to you. You'll want to sit down and discuss these with your advisor before constructing your portfolio.
Once you and your planner are on the same page, you can start putting your values into practice. There are a couple of different ways to approach this. One is through a negative screen where you identify companies that don't align with your values and remove them from your portfolio. Another is a positive screen, where you actively invest in companies that align with your goals and values.
For most investors, a simpler approach is to identify the right sustainable funds for you. A fund will reduce the need to analyze individual stocks and spread out risk by holding a large basket of equities.
Whichever investment route you choose, you're essentially authoring the “story” of your own portfolio, which can lead to a positive impact for both you and the planet.
“One of the things I like to hear from my advisor is why I should care about owning a stock,” says O'Leary. “ESG is a great framework for being able to tell a good story. Companies with good ESG may be doing better than companies without. It's another lens through which to look at your holdings—and a more heartfelt way to connect with your portfolio.”