Profit and purpose
Responsible investing, Environmental, Social and Governance (ESG) investing, Ethical investing - what does it all mean for investment management?
While the concept has been in existence for quite some time, the COVID-19 pandemic has helped accelerate the investment industry’s existing focus on the environmental and social implications of capital allocation. However, from inconsistent terminology to differing interpretations, responsible investing can be a confusing area to navigate for many organizations and increasingly, personal investors. Some investors want to incorporate their highest priorities and most deeply-held convictions into their investing style and this can be challenging to execute as intended.
Most industry observers would likely agree that demographic shifts have contributed to the growing popularity of responsible investing. Research shows that younger and more diverse investors are more likely to make investment decisions based on their own beliefs and considerations. As these groups move into leadership roles and also accumulate personal wealth, the finance industry is responding to their preferences—and, sometimes, their demands for accountability and transparency.
If you find this topic confusing, you’re not alone. Here we run through an introductory guide to this ever changing landscape and touch on ATB Investment Management (ATBIM)’s approach to responsible investing.
An assortment of terminology
As with any specialized field, the world of investing is loaded with jargon and acronyms. In this case, terms like socially responsible investment (SRI), triple bottom line, and negative screening have emerged. Luckily, the most common responsible investment terms are easily understood:
RI stands for responsible investing or responsible investment. RI is a very broad term—it is a strategy and practice to incorporate Environmental, Social, and Governance (ESG) factors into investment decisions.
Ethical/value-driven investing is the practice of investing in line with principles, typically using negative screening (see below), to avoid investing in companies that are inconsistent with the investor’s beliefs.
Impact investing, is investing to bring about specific impacts, such as bringing clean water to a community that needs it.
Triple bottom line is a way of analyzing potential investments on three different axes – usually social, financial and environmental (in other words, people, profit and planet, or the 3 Ps).
As these definitions illustrate, many terms in the world of responsible investing are similar but distinct. If you come across a term that confuses you, ask your portfolio manager or advisor for insight.
One historically popular approach emphasizes the divestiture of investments in organizations or industries to which the investor objects. A fund that supports medical professionals, for instance, might choose to avoid investing in businesses that manufacture tobacco. Unfortunately, negative screening has significant challenges when put into practice. In this example, is it enough to avoid investing in tobacco producers, or should you avoid any business that sells or distributes tobacco products? What about vaping or legalized marijuana? How many degrees of separation are you comfortable with, and how much effort will each step take to evaluate and enforce? Will you compare your portfolio’s performance to investments without these same restrictions?
There is also the issue of data inconsistency. Even though ESG rating service providers have come a long way—unlike the credit rating agencies which rarely disagree in their evaluation of a bond’s credit worthiness— there is very little correlation between the ratings provided by each independent ESG rating service. ESG is a broad and complex topic, and the industry has yet to reach consensus on how to interpret data which is varied and largely qualitative in nature.
A more practical way to approach this topic, and the one that ATBIM adopts when we construct portfolios, is ESG integration. ATBIM has always partnered with sub-advisors who consider how the values, policies and decisions made by investee companies will impact the company’s long term competitive advantage and profitability. It is a common misconception that responsible investing is at odds with a portfolio that produces positive returns. In many cases, the opposite is true. Market research consistently finds that firms taking an ethical approach in their business are more profitable in the long-term than those that cut corners, significantly harm the environment, or break laws.
Intuitively, this makes sense—companies that have strong governance tend to make good decisions across the board, whereas those with poor leadership tend to do the opposite.
An investment in Enron, for example, would have produced extremely positive returns for a time, but over the long run, would not have been a good portfolio holding. Businesses that are in litigation related to environmental damage, or have been engulfed in public scandal over human rights violations, are riskier investments than a firm that has proper governance and follows strong ethical policies.
What can you do?
Research and critical thinking is important for all investors, and the growing buzz around ESG makes it particularly vital. More organizations are talking the talk, but they may or may not be walking the walk. Investors concerned about the impact of their investments must learn to distinguish appearance from action.
This is no small task. Businesses spend a great deal of time and effort on managing public perception. Reputations and reality do not always match. One company known for upstanding conduct may be engaged in less obvious activities in another country. Another may be more focused on action than promotion, and could be doing good things without widely publicizing them in formal “social responsibility” reports. Unlike accounting statements, there is no standard report on a company’s ethical and social activities, although much effort is being devoted by regulators and governments to establish more standardization.
If this all seems overwhelming, your portfolio manager or advisor can be a great source of insight and advice. They can work with ATBIM’s investment research team, which is responsible for investment strategy oversight, to help you understand the processes and policies that we have in place to ensure the companies that ultimately end up in your portfolio have the right level of ESG consideration.
The growing popularity of responsible investing makes it unlikely this trend will disappear soon.
The concept is also attracting increasing attention from governments. In the 2022 federal budget, the Government of Canada outlined steps towards mandatory reporting of climate-related financial risks across a broad spectrum of the Canadian economy, based on the international Task Force on Climate-related Financial Disclosures (TCFD) framework. The United Nations has also developed the Principles for Responsible Investment, a framework for investors and investment managers looking to incorporate similar considerations into their decisions, and the majority of our sub-advisors have signed on to this initiative. ATBIM is a member of the Canadian Responsible Investment Association (RIA), which exists to promote the practice of responsible investing in Canada.
Such developments mean this story does not end here. Responsible investing is an appealing idea, and its relevance to governments and investors of all sizes is likely to continue growing moving forward.
This report has been prepared by ATB Investment Management Inc. (“ATBIM”) which manages the Compass Portfolios and ATBIS Pools. ATB Wealth ( a registered trade name) consists of a range of financial services provided by ATB Financial and certain of its subsidiaries. ATB Investment Management Inc., ATB Securities Inc. and ATB Securities Inc. is a member of the Canadian Investor Protection Fund and New Self-Regulatory Organization of Canada.
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