ESG and impact investing: Worthstone’s Gavin Francis discusses the differences.

November 12, 2021

Lack of regulation means ESG can be a minefield for advisers

Advisers that we work with consistently tell us that clients who invest in this way want to know where their money is invested and what it’s doing. There’s an increased demand for thorough and detailed reporting, which, not only meets clients’ expectations, but inevitably holds fund managers accountable too.

Despite recent initiatives to regulate ESG, a defining feature of ESG investing is a lack of standardisation on definition or reporting. Scoring for sustainable funds is in its infancy, leading to a disparity of ratings. The term ESG is also open to interpretation, so firms are declaring themselves ESG-compliant without any accountability. It’s a minefield for advisers who often struggle to know what’s under the label of a fund, thus making it tricky to prove to clients that their money isn’t actually doing any harm, or whether or not it’s making a positive impact at all.

Impact investing on the other hand is defined by its standardisation. An agreed set of yardsticks means funds can be objectively compared and rated. Key metrics include a fund’s contribution to positive social and environmental outcomes and the extent of a fund’s exposure to stocks commonly associated with harmful environmental impacts. Reporting back to a client is much more straightforward and because positive outcomes are achieved in a strategic way, they can be replicated.

How is impact measured by Worthstone?

Positive impact – we rate a fund’s contribution towards positive social and environmental outcomes by mapping underlying company revenues against the investable UN Sustainable Development Goals to articulate impact.
Active Agent – we assess asset managers based on their actions across four components to measure their level of commitment to stewardship, active engagement and transparency.
Avoidance of harm – scores are based on the extent of a fund’s exposure to stocks commonly associated with harmful environmental and social impacts.
ESG – operational impact measuring the Environmental, Social and Governance (ESG) practices and opportunities associated with a fund’s underlying holdings, providing insight into resilience to long-term, financially-material ESG risks.
Carbon risk – the material financial risk associated with a fund due to the implications of projected environmental policies and transitional and physical impacts of climate change.

Advisers have a responsibility to find out the purpose of a client’s investment

A financial adviser has a responsibility to find out the purpose of a client’s investment and help them articulate this. And with more and more consumers wanting their money to do good, ethical investing isn’t just increasing in prevalence but importance too.

So, much like you’d ask a client if they want to increase their income, advisers should also be asking clients if they want to make a positive impact with their investment. And for those clients who really want to make a change, not just avoid doing harm (most of the time), impact investing should be in an adviser’s arsenal of advice.

We’re not saying this is an easy task, nor is it useful to shame clients into “doing good” with their money: it’s their agenda at the end of the day, not ours. We do, however, need to find a way to unlock latent demand – if it does exist. This, in itself, is incumbent on the adviser as a professional to meet their clients’ objectives, however challenging it may be to uncover these.