By Tyler Dhaliwal
How does one go from having the idea of investing some of their money in ESG companies to actually making their first investment? The purpose of this article will be to provide you with some basic information about investing that will help you answer that question. This article is intended for readers with any level of investment knowledge and is specially targeted toward complete beginners. We will cover two critical investment approaches, passive investing & active investing, explaining each as well as their pros and cons while considering ESG factors. This article will help you decide the best method for you and help you turn your investment ideas into reality.
Before we begin, I want to add that we will only be discussing long-term investment approaches, which means no day trading and no complicated strategies like shorting or options. Stocks are not lottery tickets; each represents a small piece of ownership in an underlying business. By knowing what you own and ensuring that your holdings fit your own ESG guidelines, you can be sure that your money is going towards companies whose products and services make the world a better place.
PASSIVE VS ACTIVE INVESTMENTS
There are two general ways you can approach your investments in publicly traded companies, passive investing & active investing. Passive investing involves buying and holding ETFs, mutual funds, or index funds that are made up of a basket of different securities. Usually, these funds seek to duplicate the performance of major market indexes and are therefore made up of all companies in said indexes. Active investing involves trying to beat the market by only picking certain companies to buy. You can do this yourself or outsource it to professionals through actively managed ETFs and mutual funds. Sometimes active investors take advantage of day-to-day price fluctuations, but in this article, we will only focus on active investors that take a long-term buy-and-hold strategy.
One of the keys to passive investing is diversification. By owning tiny fractions of hundreds or thousands of businesses, you can safely enjoy the returns generated by corporate growth, which occurs over long periods. Buying ETFs, index funds, or mutual funds allows you to own many businesses easily and is the cornerstone of passive investing. Passive investing’s many advantages make it the best strategy for most investors. Furthermore, it has been shown that the vast majority of actively managed funds have underperformed markets over long periods. Another hallmark of passive investing is limited buying and selling of your holdings. Limited trading can reduce behavioural biases and is associated with better returns. Since passively managed funds usually model a benchmark like the SP500, for example, there is little work for the managers to do, which reduces fees dramatically. For those who are not passionate about investing and do not have the time or will to spend multiple hours a week analyzing businesses, passive investing may be the way to go.
All this is great, but how does passive investing stack up when we look at it with an ESG lens?
On the one hand, since passive funds usually track an index or sector, there is high transparency in their holdings. The problem, however, is what is being owned. Because most passive strategies seek to mimic entire market indexes, they are made up of all sorts of companies. This means you will usually find the likes of Chevron, Philip Morris, Meta, and many other companies which might not fit your ESG standards. There are ESG indexes, but the people who decide which companies make it and which do not often have their own biases.
Active investing seeks to beat the market performance, not mimic it. One of the key benefits can be derived when taking into account ESG factors. If you make your own investments, you can be sure that what you buy fits your personal beliefs and ESG standards. However, it may take more work to ascertain if you buy actively managed funds instead of buying stocks yourself. For those passionate about investing and willing to invest the time, active investing may be the way to go. With that being said, it is also time-consuming, riskier, has higher fees, and almost all actively managed funds have been shown to underperform the market over long periods.
CONCLUSION
Whether you choose a passive strategy, an active one, or a combination of the two, there are ways to ensure that your investments fit your ESG goals and standards. Remember that many different people own public companies. Millions of people, through their investments, may own companies which may conflict with their actual desires. Think of it this way. Who owns ExxonMobil? Well, it’s a public company. Many everyday people own a small piece of it through investments they or their money managers have made in index funds, mutual funds, and ETFs. This is why it is essential to know what you own to ensure it aligns with your standards. This highlights one of the significant advantages of active investing, the ability to choose which companies to own. Of course, not everyone is passionate about investing and wants to spend their time analyzing companies. Passive investing offers ESG ETFs, index funds, and mutual funds, but you have to be careful, as many may not be as ESG-friendly as they are marketed. As more people start to care about aligning their investments with ESG ideals, the industry will change to accommodate that. In the meantime, the best we can do is make sure we only own companies which offer a net benefit to society and spread this idea to others because the ramifications of doing so are overwhelmingly positive.