What is Responsible Investment?
Responsible investment (RI) approaches consider environmental, social, and governance (ESG) factors in investment strategy and decision-making, and in the stewardship or active ownership of portfolio companies. Different sub-sets of RI include:
- Ethical Investment: where specific values-based indicators result in the exclusion of companies (e.g., doing business in apartheid South Africa) or entire industries (e.g., fossil fuels).
- Socially-responsible investment: where analysis of the nature of the business conducted by a company is instrumental in the decision to invest, with investments aimed at avoiding social harm while still achieving financial returns.
- Social impact investment: where investment decisions are actively intended to result in beneficial social impacts in addition to financial returns.
RI is increasingly standard practice among institutional investors and private fund managers. The UN-supported Principles for Responsible Investment (PRI) initiative has approximately 1,500 signatories based in over 50 countries managing assets of almost US$60 trillion, all of whom are committed to integrating ESG factors throughout their investment analysis and engagement practices. Major traditional firms such as Goldman Sachs and Blackrock have set up funds that incorporate ESG factors to make responsible investment decisions, and Goldman Sachs has stated that "ESG risk factors could be considered an appropriate input by a prudent plan fiduciary". The 2016 MIT Sloan Management Review produced in partnership with BCG found that 75% of senior investment firm executives "agree that a company’s good sustainability performance is materially important when making investment decisions."
Why Engage in Responsible Investment?
The business case for RI continues to gain strength as empirical evidence grows. Some of the key benefits include:
- Improved Returns on Investment: A growing body of research indicates that companies that implement sustainability practices effectively outperform companies that do not over the long-term by a significant margin (e.g., Eccles, Ioannu, and Serafeim, 2011), benefiting investors with stronger returns. A recent study by Project ROI—a collaboration that includes Babson College and IO Sustainability, LLC—also found that effective corporate responsibility practices by portfolio companies can lead to a 6% increased in market value for shares.
- Enhanced Risk Management: Salient ESG factors are frequently related to material financial risks such as increased costs, interruptions in operations, legal or regulatory sanctions, or a loss of clients/consumers.
What kinds of activities do responsible investors do?
- Incorporate ESG factors into overall investment strategies and into the analysis of specific investment opportunities. This may include:
- Publishing a Responsible Investment Policy, outlining the principles and methods to ensure investments adequately consider ESG factors;
- Establishing a Responsible Investment Committee to oversee and ensure consistency in the implementation of the RI policy in pre-investment due diligence analysis, investment decision-making and legal agreements (i.e., side letters or conditions precedent), and to monitor portfolio management;
- Measuring and monitoring performance related to ESG risk factors and opportunities, to demonstrate progress against key indicators that can enhance access to capital for investment exit processes and enhance investment returns;
- Communicating to stakeholders, for example fund beneficiaries or limited partners, regarding ESG issues related to portfolio investments.
- Engage with portfolio companies as active owners and capital stewards, encouraging the adoption of practices to improve risk management and corporate governance in relation to ESG issues. This may include:
- Seeking a role on the board of directors (where possible) and mandating management to implement policies and practices;
- Direct engagement with the board of directors to advocate for management policies and practices;
- Proposing and voting on shareholder resolutions asking the board of directors to take specific actions.
Principles & Frameworks
- Principles for Responsible Investment (PRI), the Six Principles
- IFC Environmental and Social Performance Standards
- Equator Principles III
- Financial Stability Board, Key Standards for Sound Financial Systems
- Thun Group, UN Guiding Principles on Business and Human Rights: Discussion Paper for Banks on Implications of Principles 16-21
- Network for Sustainable Financial Markets
- OECD Working Group on Responsible Business Conduct in the Financial Sector
- Social and Sustainable Investment Forums: EuroSIF / USSIF / UKSIF
- Harvard Kennedy School Hauser Center Initiative for Responsible Investment
- Robert F. Kennedy Center COMPASS Initiative
- International Corporate Governance Network, Corporate Governance Principles
- The Global Impact Investing Network (GIIN)