At its onset, Socially Responsible Investing involved the avoidance of specific stocks or industries through negative screening according to moral guidelines. The major impediment has been that numerous restricted lists of objectionable companies have prevented a critical mass from coalescing on any one issue. In the 1970’s, the Calvert Investment Group attempted to mitigate this hurdle by collecting a wide range of concerns for broader appeal. While seemingly straightforward for managers to combine multiple restricted lists for stock selection, overly broad vectors result in too narrow an investable list. When the investable universe contracts to such an extent, judgment calls become necessary, uncertain standards arise, and conflicting indices of companies are formed. Modern portfolio theory further argues that in narrowing the universe, an investor cannot achieve an optimal portfolio.
Today, the popular jargon for investing with a conscience has become Environmental, Social and Governance (ESG) investing. Through numerous conversations with financial professionals, I have observed a common misconception that ESG-investing is simply a revival of a prior trend. Irrespective of the widespread impact on the industry (and of this I am still not certain), the concept of “Responsible Investing” has changed in meaning and implication. ESG is an outgrowth of previous attempts; no longer focused on restricting specific companies and sectors, but rather on integrating environmental, social, and governance factors into the fundamental investment process.
Ample systematic and non-systematic factors become relevant for a fund manager when he or she is selecting investments. Proponents of ESG are simply asking money managers to make Environmental, Social, and Governance three of them.