This is the fifth in a series of posts on consideration when evaluating the performance of an investment portfolio.  So far, I’ve focused on quantitative measures of investment performance.  I would now like to discuss qualitative considerations when evaluating portfolio performance.  More specifically, to what degree (if any) should the societal impact of the business activities and practices of the investments included in a portfolio be considered when evaluating the portfolio’s performance?


ESG Investing

“ESG Investing” is the term that is most often used to refer to socially responsible investing, where consideration of Environmental, Social and Governance factors alongside financial considerations when selecting investments to be included in a portfolio.  There are numerous factors that ESG investors may use to screen investments to be included in a portfolio, such as environmental impact, labor practices, gender diversity, healthy living, and corporate behavior, among others.


ESG investing is on the rise.  One estimate places the amount of assets managed with ESG factors in mind at over $20 trillion of assets, or around a quarter of all professionally managed assets around the world.  A recent survey of over 22,000 investors across 30 countries found that 70% of U.S. investors have increased their allocations to ESG investments over the past five years.  The same study claims that 75% of investors stated that investing sustainably has increased in importance to them in that time.[1]


ESG Investing on Portfolio Performance

The impact ESG investing has on portfolio performance has been hotly debated.  Proponents of ESG investing argue that the use of ESG screens as part of the portfolio management process leads to higher returns because companies that emphasize ESG practices benefit from a lower cost of capital, better public relations, greater stability, fewer labor strikes and reduced corruption and fraud losses.  Others point to studies that suggest that portfolios that focus on companies that are considered to be good corporate citizens generate a lower rate of return.  For example, the Norwegian state pension fund estimates that it has given up 1.9 percentage points of return over the past decade by excluding weapons makers, coal producers and other companies socially irresponsible from its investment returns.


Some portfolio managers and investment advisors have been reluctant to consider ESG as a factor when managing investment portfolios, based on the belief that their fiduciary duty is to maximize their client’s investment returns, irrespective of environmental, social or governance considerations.  Another issue is the difficulty associated with evaluating a particular company’s ESG’s efforts and results.


ESG Investing with ETFs

The surge of interest in ESG has led to the proliferation of passively-managed exchange traded funds and mutual funds that have an ESG focus.  Currently there are 70+ ETFs that proport to use an ESG screen when selecting the companies eligible for inclusion in the index.  That’s good news for investors and portfolio managers (such as The Milwaukee Company) who manage investments using rules based tactical asset allocation strategies.


There are a number of factors that impact the selection of ESG ETFs to be included in an investment portfolio or in the fund universe of an ESG oriented investment strategy.


  1. Investment Strategy. An ESG investment strategy can be constructed in a variety of ways.  For example, a values-based strategy will attempt to screen out companies with questionable business practices, while impact investing strategy seeks to invest in companies that have the greatest potential to advance social causes or are making the greatest strides in improving their ESG profile.  An influence investing strategy seeks to invest in companies where the manager believes he can exercise the fund’s voting rights in a way that influences company management to act in a more socially responsible manner.


  1. Social Purpose. The social purpose or purposes that an ESG investment supports can vary greatly.  For example, some funds target a particular cause, such as the environment or social issues (such as fair wages, health care, religious considerations, or education).  Other ESG funds avoid companies that profit from “vices” such as smoking, alcohol or gambling.  There are also ESG funds that concentrate their investments in certain regions of the world.


  1. Index Tracked. There are currently dozens of indexes that are purportedly comprised of socially responsible publicly traded corporations.  Some of these indexes are independent, well-respected and legitimate attempts to create an index that represents the ESG sector of domestic and international stocks.  Others, however, are not much more than a marketing tool that has been created by ETF providers.  Accordingly, it is wise to take a critical look at the index the ESG fund is tracking.  More information on ESG rankings can be found HERE.


  1. Fees. The average ESG ETF fee is about 0.5%.  However, there are a handful of ESG ETFs that are in the 0.15% to 0.20% range.


As the foregoing discussion makes clear, factoring qualitative considerations such as social good when evaluating a portfolio’s performance is a difficult task.  Although debatable, there is considerable support for the belief that investors who include ESG as a factor of portfolio management should expect to experience lower over-all financial returns.  However, the personal satisfaction that can come from knowing your investments are doing good for the world may result in superior “total returns” for an ESG portfolio.




[1] Schroders Global Investor Study 2017: Sustainable investing on the rise. 2/28/17.


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