ESG, Is It Right for You?

Environmental, Social and Governance (ESG) has become a hot topic lately but is it right for retail investors? Of course, that depends on your goals as an investor. If you care about the environment and other issues, then maybe it’s right for you but at what cost? Investing in the ESG landscape might limit your investment options and therefore your return as an investor. The average retail investor is not wealthy and therefore cannot afford to dedicate large portions of their portfolio to lower performing asset classes which might be the case with ESG investing. Let’s take a deeper dive into the world of ESG to see if it’s worth your time to consider this area for investment. And if it is, investors might want to have another investment strategy in place that can make up for any lackluster returns from the ESG part of their portfolio.

First off, ESG investing limits the pool of investable companies. Companies that do not meet ESG criteria are excluded, and this reduces the available investment opportunities for investors. This means that investors may miss out on potentially profitable investments, as they limit their portfolio to companies that meet ESG standards. For example, companies in industries like oil and gas or mining may be excluded from an ESG portfolio due to their negative impact on the environment. However, these industries can be profitable, and by excluding them, investors may miss out on high returns.

Also, companies that meet ESG criteria may have higher costs. For instance, companies that prioritize reducing their carbon footprint may have to invest in expensive technology or renewable energy, which may increase their costs of production. This may lead to lower profits and hence lower returns for investors. Similarly, companies that prioritize employee welfare may have to provide better benefits and pay higher salaries, which could impact their bottom line. As a result, investing in companies that meet ESG criteria may lead to lower returns.

Another point, ESG investing may lead to a lack of diversification in a portfolio. ESG investing often involves investing in companies from specific sectors or industries that meet ESG standards. This means that investors may be overly exposed to a particular sector or industry, which can be risky. For instance, if an investor only invests in renewable energy companies, their portfolio will be heavily exposed to the risks associated with the renewable energy sector. This lack of diversification may lead to lower returns, as the portfolio is not spread across different sectors and industries.

Lastly, ESG investing may be influenced by subjective factors. ESG criteria can vary depending on the organization or institution defining them, and the criteria can be subjective. As a result, ESG investing can be influenced by personal biases or opinions, which may not align with the investor’s financial goals. This may lead to investments in companies that meet ESG criteria but do not necessarily align with the investor’s financial objectives.

So, let’s summarize it all, ESG investing may potentially have lower returns than a strategy not limited by ESG criteria. ESG investing limits the pool of investable companies, which may lead to missed profitable investments, and companies that meet ESG criteria may have higher costs, which may impact their profitability. Additionally, ESG investing may lead to a lack of diversification and be influenced by subjective factors, which may not align with the investor’s financial goals. However, it is important to note that ESG investing is a long-term investment strategy that considers the impact of companies on society and the environment. Therefore, it is up to the investor to determine their investment goals and decide whether ESG investing aligns with their objectives.

Despite its potential limitations on investment return, ESG investing can be a good thing for those retail investors who are interested. However, investors might need a higher performing investment portfolio to offset any lower returns from the ESG part of their portfolio. Are you looking to add ESG investments to your portfolio? If so, maybe you should consider Investoristics to provide a boost to your portfolio’s investment performance. Get significantly higher returns with lower risk than the overall market. Please contact us today to find out more.