There is evidence that companies that engage in environmental stewardship can limit risks and benefit financially. We look at three categories of investment opportunity.
Investors understand that prioritizing environmental responsibility in their portfolios can help solve some of the world’s most critical environmental issues. It’s estimated that about US$35 trillion (or about 36%) of all professionally managed assets worldwide have been directed toward investment strategies that prioritize sustainable businesses, and the number is rising.
But it’s not just about protecting the planet. There’s also growing evidence that companies that engage in environmental stewardship activities can limit risks and benefit financially, making them increasingly attractive to investors.
This is investing with a focus on the “E”—which stands for environmental—in ESG.
Thematically, investing to support environmental responsibility tends to fall within three broad categories:
1. Climate and the race to net zero
The most pressing concern guiding today’s sustainability conversations is the effect of carbon on our climate. Scientists agree that the earth’s temperature is rising at an alarming rate largely driven by human activity, which has dramatically increased emissions of carbon dioxide and other greenhouse gases produced into the atmosphere. This ‘global warming’ is having drastic effects on life-sustaining ecosystems, resulting in extreme droughts, storms and floods and fires.
Governments around the world—including Canada’s—have underscored the urgency of this issue by pledging to achieve “net zero” carbon emissions by 2050, in line with targets set out in the Paris Agreement of 2015.
Net zero is an ambitious goal that attempts to counterbalance all human-driven greenhouse gas emissions with equivalent carbon removal efforts, such as restoring forests or developing carbon capture and storage technology. To have any chance of successfully meeting net-zero commitments, most countries must drastically reduce their dependence on fossil fuels and begin the economic transition to cleaner, renewable and alternative sources of energy.
Investing to reduce carbon amounts to far more than discouraging or restricting investment in fossil fuels and other carbon-intensive industries. Fossil-fuel free investing on its own will not make emissions go away. It is imperative we invest with the intent to fundamentally change industrial processes, find alternative sources of fuel and offset emissions with carbon mitigation measures—approaches that demand innovation and present new and profitable opportunities for investors. For example, research continues into renewable energy sources from the wind and sun, and into alternative sources of fuel such as hydrogen and renewable natural gas, making it possible to drive climate change mitigation by selecting companies that incorporate these new technologies.
2. Keeping the air, water and soil clean
Since the start of the industrial revolution, human activities have released harsh pollutants into earth’s air, water and soil on a large scale, with often devastating effects on the broader ecosystem.
In 1952, for example, pollutants from coal-burning factories and home fireplaces mixed with air condensation killed at least 4,000 people in London over the course of several days. And in the 1970s, the commonly used pesticide DDT was banned once scientists raised the alarm about its harmful effects on wildlife and human health. As similar examples of polluting practices have entered the mainstream in recent years, responsible investors have responded and looked to companies to reduce pollutants – or to assist others in doing so.
Today, one of the world’s greatest pollution challenges comes from plastic waste, which is deeply entrenched in the practices of many developed societies. In addition to being composed of mainly of carbon-intensive fossil fuels, millions of tonnes of single-use plastics end up in our oceans each year, threatening the viability of our marine ecosystems. In fact, scientists predict there will be more plastics than fish in our oceans by 2050.
As a result, governments around the world are setting increasingly more stringent environmental standards and restrictions around the production and use of plastics. Companies that embrace a “circular economy” model that involves reducing plastics and planning for their responsible disposal are ahead of the curve, limiting their regulatory and reputational risks, and attracting more customers and investors in the process.
3. Sustaining natural resources and biodiversity
Biodiversity—the sustainability of the earth’s natural resources and the diversity of all living things—has recently emerged as a factor in ensuring the ongoing health of the planet. Fundamentally linked with climate change and pollution, issues such as declining bee populations, shrinking wildlife habitats and water scarcity are having negative yet sometimes unseen effects on the natural world that sustains us.
For example, it’s believed that declining biodiversity could factor largely into infectious disease outbreaks, which, as the COVID-19 pandemic has acutely illustrated, have the potential to negatively impact productivity, supply chains and global business activity – in addition to threatening millions of lives.
Given that about half the global economy is highly dependent on natural resources, it’s surprising to note that many industries relying on those ecosystems for profits have historically not taken steps to preserve them. Mining and forestry companies, for example, often use vast amounts of energy and water in the production process, and their traditional extraction methods can cause significant harm to fragile ecosystems.
In some cases, investors will use negative screens to avoid companies that continue to operate in ecologically sensitive areas or are involved in deforestation practices, such as the palm oil sector. However, as investors increasingly prioritize environmental issues and governments enforce stricter regulations, companies that are changing their products and processes to protect biodiversity are benefiting by attracting additional investment and reducing their overall risks.
What does it mean for investors?
There’s little doubt that investors have discovered the capacity to influence companies and issuers to improve their environmental responsibility. As approaches to responsible investment mature and gain traction, greater corporate transparency about what’s working from an environmental perspective will be key to giving investors confidence that their choices are making a difference.
In the meantime, active fund managers can help investors achieve their financial and environmentally responsible investment goals by:
- Providing the expertise and resources to uncover climate-friendly investment opportunities, evaluate risks from a financial and regulatory perspective and build diversified portfolios with strong environmental profiles.
- Detecting instances where companies are making false or unsubstantiated claims about their environmental records, also known as “greenwashing.”
- Engaging with corporate boards, management and regulators to encourage changes that will help to protect the environment. This can include dialogue, leadership on proxy voting, industry advocacy and collaboration on enhancing standards and environmental reporting
- Providing access to investment opportunities not available to many retail investors, such as blue bonds (debt instruments issued to supporting clean and healthy oceans) or green bonds (issued to support environmentally sustainable initiatives).