An update on responsible investment definitions

The investment industry is beginning to form a consensus around some key definitions in the responsible investment space where, in the past 10 years or so, words have been used indiscriminately and interchangeably. While the situation continues to evolve, we want to articulate the differences between important terms by highlighting some examples:

Let’s start with the most popular term of all – ESG. This is an acronym which stands for environmental, social and governance, so often used without explanation. Many use ESG as a de facto hallmark to imply that an activity or company is doing ‘good’, or something ‘positive’ or ‘sustainable’.

Instead, an investor should ask: ‘What are the material ESG factors for this activity or company and how do they affect an investment case?' 
An ESG factor can be qualitative or quantitative information related to environmental, social, or governance topics. ESG integration, as an investment strategy, operates on the belief that not all such factors are reflected in asset valuations, prompting the exploration of various sources of information to gain further insights into them. 

Additionally, ESG factors often overlap and do not fit neatly into separate categories. For instance, a regional conflict could be considered both a geopolitical and a social factor.

Responsible investment involves considering environmental, social and governance (ESG) issues when making investment decisions and influencing companies or assets (known as active ownership or stewardship). This is a definition formalised by the UN Principles of Responsible Investment (UNPRI), an international organisation supported by the United Nations. 

This widely used, and largely risk-based management approach to investment contrasts with the altogether more specialist 'sustainable investment’ term. This describes portfolios that aim to deliver long-term positive social or environmental outcomes, where a meaningful proportion of the total investment qualifies against a set of predetermined criteria. They are likely to have a more limited investment universe with consequences for both performance and risk profile.

In truth, a grey area exists between these approaches and introducing two lesser-known but increasingly used terms, 'sustainability-related’ or 'sustainability characteristics’, may be helpful. These catch-all terms communicate efforts made to make an investment portfolio more socially and/or environmentally friendly, particularly if they don’t qualify for one of the four sustainability labels under the Financial Conduct Authority’s (FCA’s) Sustainability disclosure and labelling regime).

Sustainability-related portfolios can follow an ’ethical’ or values-based approach, where exposure to areas considered harmful e.g. tobacco is limited. 

Portfolios might also have sustainability characteristics. This suggests that they hold some investments in sustainable activities or assets, but the proportion falls short of a meaningful allocation to sustainable investment.

It will take a while for these new ways of using sustainability-related terms to catch on, and there is more work to be done.

At Evelyn Partners we have a dedicated responsible investment team that collaborates with our investment management colleagues and relevant industry bodies. Their aim is to support our investment process, enhance understanding of sustainability-related issues for the benefit of all parties, and contribute to improving the responsible investment landscape.

Evelyn Partners has proudly sponsored an initiative by Civil Society Media and the publication of their ‘A-Z of ESG Best Practice Guide’ of sustainability-related terms. Download the guide here.

You can find out more about the Evelyn Partners approach to responsible investment, discretionary investment management and charity investment management here: Our approach to responsible investing.