The COVID-19 Reset: Why Right Now Is the Time to Consider ESG
Conventional thinking works. Until it doesn’t.
Individuals who incorporate socially responsible (SRI) or environmental, social and governance mandates (ESG) into their investment portfolios already know this. Their approach to the capital markets and wealth creation has been uncoupled from “conventional” investing five decades ago. Inherent in its design, SRI/ESG strives to achieve financial, social and environmental goals—not to sacrifice one for the other.
In fact, recent research from Bloomberg Intelligence and BlackRock shows that during the stock market sell-off that began in March of this year, ESG and SRI funds saw fewer drawdowns and had better performance.
As the economy reopens after the COVID-19 pandemic, the goal of SRI/ESG should be embraced: Get capital to those who need it most, and then align economic growth with the well-being of employees, the community and business alike.
How? It’s time to break out the ESG investing playbook.
Strive to Balance Financial, Social, and Environmental Outcomes
This can be done. The scrutiny of SRI and ESG performance is now going on 50 years, and these strategies have thrived under that spotlight. SRI/ESG investing is still growing rapidly and now accounts for one out of every four investment dollars in the United States (over $12 trillion). ESG investors want to direct capital where it will have a positive impact on society, and they want to align their portfolios with a more sustainable economic model. And ESG has not hurt long-term performance. A 2015 meta-study of over 2,000 empirical studies concluded the same thing over the long term: In 90 percent of those studies, ESG either helped or did not have a negative effect on performance.
As America enters a post-COVID-19 reset of the economy, balancing social well-being and economic growth should not be seen as mutually exclusive. Nor should the support of traditional industries along with more sustainable, forward-looking ones.
For example, the proliferation of investment strategies focusing on low carbon speaks volumes about where ESG investors are directing capital. The U.S. government might be wise to follow suit. Currently, stimulus is providing direct support to the oil and gas industry through direct aid and also through the support of the junk bond market, which is dominated by energy companies. Time will tell whether that investment will be worth the taxpayer burden. Regardless, it would make sense to direct stimulus capital to retrain oil and gas workers for a post-carbon economy. In fact, that might pay greater dividends to society in the long run. Green energy think tanks report that for every $1 million received from stimulus money, green energy will create 13 jobs versus just five for traditional oil and gas.
ESG might increase the ROI of stimulus, as well. Studies have already shown that the cost of capital is lower for companies that score well on Corporate Social Responsibility (CSR) metrics. Perhaps an ESG lens on government contracts would provide more bang for its buck for taxpayers. It stands to reason. For example, as companies move into the phase in which employees return to a COVID-19-wary environment, it is likely that companies that score well on ESG will accomplish workplace reentry better than those that do not. These companies communicate better with their employees, garner more goodwill from their employees and have already emphasized more flexible and safe workplaces. ESG calculus already takes these traits into account when making long-term investments. The government may benefit from integrating similar criteria.
Unsustainable Growth Is Not Really Growth
SRI and ESG investors (by and large) have eschewed the idea that stretching supply chains around the globe for ever higher profit margins is sustainable. In fact, ESG saw long-term investment risk in this model. Conventional dogma, on the other hand, said higher profits beget more wealth creation and, in the end, justify the means. And then $17 trillion of that global wealth was wiped out in two weeks, the supply chain snapped, and a massive supply-side shock hit the system. Conventional thinking works. Until it doesn’t.
ESG Is an Evolution, Not a Revolution—and Perfect Can’t Be the Enemy of Good
The fact that non-traditional risk factors like climate change, water and access to health care have become widely accepted as real risks to financial and business returns thanks to ESG investing makes sense. It is based on empirical observation, not emotional reaction. The fact that companies that treat their employees better and have good brand reputations may garner higher valuations than peers is based on the value of intangible assets in investing—which has become more relevant in today’s highly competitive and disruptive world.
The reset of the American economy has to be adaptable, too. America didn’t have to be left with a shortage of masks and ventilators. The American meat supply did not have to be so vulnerable to COVID-19 that it was shut down in an instant. This vulnerability is not an accident. America built that model. America spent 30 years exporting its entire textile industry and industrial capabilities to lower cost producers and allowed food production to be transformed into an industrial model. With tens of millions of Americans unemployed and many small business employers out for the long haul, the reset might take another page from the ESG playbook: Invest in a sustainable local food system that can provide jobs and a more sustainable and safer food supply.
Conventional thinking works. Until it doesn’t. ESG investing should no longer be seen as unconventional.
Blaine Townsend, CIMA, is executive vice president and director of sustainable, responsible and impact investing at Bailard, Inc.
This piece has been distributed for informational purposes only and is not a recommendation of any particular strategy. It does not take into account the particular investment objectives, financial situations, or needs of individual clients. Past performance is no indication of future results. All investments have the risk of loss. There is no guarantee any investment strategy will achieve its investment objectives. All investments have risks, including the risks that they can lose money and that the market value will fluctuate as the stock and bond markets fluctuate. The application of various environmental, social and governance screens as part of a socially responsible investment strategy may result in the exclusion of securities that might otherwise merit investment, potentially resulting in higher or lower returns than a similar investment strategy without such screens. The information in this publication is based primarily on data available as of June 3, 2020 and has been obtained from sources believed to be reliable, but its accuracy, completeness and interpretation are not guaranteed. In addition, this piece contains the opinions of the authors as of that date and such opinions are subject to change without notice. We do not think this publication should be relied on as a sole source of information and opinion on the subjects addressed.