Investing in Affordable and Clean Energy
The scientific community agrees that the earth is getting warmer and we are seeing more dramatic climate events because of this.1 However, the extent that humans are inducing global climate change is still being debated. Although there is still debate about how much humans contribute to global climate change, there is no doubt that we are more aware of our environmental footprint than before.
In 2012, the United Nations Conference on Sustainable Development created 17 Sustainable Development Goals (SDGs) that are aimed to meet environmental, political, and economic challenges. A number of these goals focus on climate change and developing a way to provide cleaner renewable sources of energy to every person in the world. By giving universal access to renewable energy, not only does it reduce our carbon footprint, but it also gives those who otherwise would not have modern energy services a higher standard of living.
Many investors strive to avoid the “bad actors” that have high carbon emissions and choose companies that have a positive net effect on the environment. According to the “2020 Report on US Sustainable and Impact Investing Trends” by US SIF, the top ESG criteria for money managers in 2020 was Climate Change/Carbon Emissions. This criterion applied to over $4 trillion professionally managed assets, which is almost twice the amount of the next most popular criterion, Anti-Corruption.2
How can you invest in a portfolio of companies that demonstrate positive behavior and policies surrounding pollution, energy efficiency, and renewable energy? The easiest way is through investing in mutual funds or exchange traded funds (ETFs) that include companies that have higher-than-average environmental scores compared to their peers, or by excluding companies that have negative environmental characteristics, such as fossil fuel companies. Over 250 ESG focused mutual funds and exchange traded funds implement various environmental criteria as part of their investment strategy.
For many years, one of the deterrents to ESG investing was the belief that the investment performance of ESG funds was inferior to traditional investments. It has been shown that when you implement ESG factors into your portfolio, there will be a higher probability that your investment performance will deviate from the benchmark (this is called "Tracking Error"). However, while an ESG portfolio may not completely replicate the benchmark index, some studies have shown that ESG factors may actually be additive to performance.3 A paper from MSCI titled “Foundations of ESG Investing – Part 1: How ESG Affects Equity Valuation, Risk, and Performance” concluded that when a company focuses on maintaining high ESG characteristics, it can lead to higher profitability, lower business-specific tail risks (flukes), and higher valuations compared to their counterparts that have lower ESG ratings.4
Companies may need to increase their focus on their environmental standards and policies if they wish to continue to attract capital. Please reach out to your Allodium Investment Consultant if you would like to learn more about implementing an environmentally conscious portfolio. For more information on affordable and clean energy, see our handout on the United Nations Sustainable Development Goal 7.
The information provided is for educational purposes only and is not intended to be, and should not be construed as, investment, legal or tax advice. Allodium makes no warranties with regard to the information or results obtained by its use and disclaim any liability arising out of your use of or reliance on the information. It should not be construed as an offer, solicitation or recommendation to make an investment. The information is subject to change and, although based upon information that Allodium considers reliable, is not guaranteed as to accuracy or completeness. Past performance is not a guarantee or a predictor of future results of either the indices or any particular investment.