ESG and Impact Investing Beyond Screens

Fundamentals should drive decision-making.

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light-bulb-esgWhen it comes to environmental, social and governance factors (ESG), investors are confronted by an alphabet soup of acronyms that can make it tough to determine which tools to use. But, says Meg Starr, vice-president, Goldman Sachs Asset Management, investors need to be clear on what their objectives are first and foremost — and understand they don’t have to sacrifice returns to integrate ESG across the portfolio.|

Investors are right to question whether or not ESG can deliver the returns they need — after all, Starr says, “Socially responsible investing and exclusion is over-pitched and under-delivered,” leaving plan sponsors skeptical about the ability of these strategies to help them meet their return objectives.

Over the past few years, the spectrum of ESG opportunities has opened up to include not just passive exposure through an index but also across a range of active investments. “There is no case for giving up returns in public markets,” she says. “Through ESG integration, investors can do deep fundamental research in the context of ESG and determine what is material from a risk or return standpoint.”


Starr says ESG is already being used in most real estate portfolios, where buildings are being retrofitted and made more efficient to add value down the road and command higher rents. However, active management is a critical differentiator across all areas of ESG.

Starr cites the example of two Indian garment manufacturers she recently looked at. Deep analysis helped identify which one was the bigger risk, beyond the usual metrics. While one company had great prospects and solid financials, looked at through an ESG lens, that same company was going out to villages to buy young female workers away from their families, a form of indentured servitude that provided it with an unsustainable — and unacceptable
— cost advantage.

Another area is also emerging — market rate impact investing, which sees investors putting money directly into businesses that are aligned with impact themes and that are also profitable. “Education, for example, is a space with the least amount of innovation and technology — but the fundamentals are great for education-focused technology, especially in low income areas.”

By mixing private equity and impact investing, investors can foster growth in an industry where there is both need and profitability. Fundamentals should always be used to drive impact investing decisions and, in doing so, investors can find value that hasn’t yet been priced into the market — and identify what to avoid.

For example, issues pervade some traditionally popular ESG areas like rooftop solar, where consumer financing is a challenge. Instead, there are different ways to approach these trends —solar panels used in industry, notably. Starr has a few key takeaways for plan sponsors, including that ESG and impact investing shouldn’t be lumped together
and that both have applications in private, not just public, markets.

Investors should also look at ESG as a process rather than an act, but it should also go beyond labels and help capture potential alpha opportunities across a wide set of companies.

“ESG and impact investing can be integrated into conventional asset management,” she says — and for those investors willing to change their mindset about it, market rates of return can be achieved — in fact, they should become the norm.

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