Impact of Air Pollution And ESG Investing.
Nov 12, 2019

Author: Aditi Murkute

Impact of Air Pollution and ESG Investing
(Image Source: Image by Mystic Art Design from Pixabay)

Alarming Air pollution reports in Delhi have become a major concern post Diwali. The recent smog developed due to heavy particles settling and burning of farmland to prepare for sowing in the nearby regions is a serious threat to the lives of people.

The government-run monitoring agency System of Air Quality and Weather Forecasting and Research (SAFAR) mentioned that, 'The air quality has deteriorated because of low wind speed, cloudy conditions and an increase in contribution of stubble burning in neighbouring States.'

For the past several years, air pollution in Delhi is the worst of any major city in the world, as per WHO.  India has the world's highest death rate from chronic respiratory diseases and asthma, according to the WHO. In Delhi, poor quality air irreversibly damages the lungs of 2.2 million or 50 percent of all children.

Recent cyclonic rains over some parts of western region of the country affected the air quality as well as caused viral infections, bronchitis and other forms of respiratory diseases.

How can we try to curb this problem? By consciously taking steps that impact the environment. For instance, not burning of crackers, avoiding the use of plastics, and opting for more environmentally friendly options.

Even when we invest our hard-earned money, embracing 'socially responsible investing' is essential. Fundamentally, as a part of a larger ecosystem, each one of us has a role to play in the path to progress and sustainable living.

We need to be sensitive to Environment, Social, and Governance (ESG) issues--which are crucial subject matters --while looking for wealth-creating investment opportunities.

Globally, institutional investors such as pension funds give a lot of importance to ESG parameters when making investments. The ESG theme is picking up in India too with a few mutual fund houses, including Quantum Mutual Fund having introduced Quantum India ESG Equity Fund.

The current climate is turning the spotlight on to the ESG theme. This is not just the topic of discussion in the developed economies in Europe and the US, but also perceived to be significant in Asia and emerging market economies.

Besides, more and more companies are making a conscious effort and improving their ESG practices. Globally, ESG theme of investment is mature and forms a significant part of investors portfolio, especially in Europe and the US.

But recently in India too, due to corporate governance issues, the focus has shifted to adopt ESG investing. You would agree that at a broader level, asset managers have a fiduciary responsibility while serving the interest of investors' and community/society at large. And what's reassuring is that in the recent years the availability of alternative ESG information, indicators, and tools have vastly increased enabling asset managers or fund managers to make better investment decisions in the endeavour to responsibly build wealth for investors in the long run.

Correspondingly, investors and society at large are turning conscious and socially responsible in their lifestyle choices. Environment, Social and Governance are vital facets of the larger ecosystem we live in. Sensibly handling of the environment and social issues, like global warming, pollution control is essential in the path to progress and sustainable living. Governance also plays a key role, without which everything can fall apart and progress in its true sense may never see the light of the day.

For example, a company with lower carbon emission would be a better company than a polluter as it will face lower regulatory or societal risk. So, its shares would be less volatile over time and will provide better returns, if invested in it.

A perfect way, to put it would be, finance without sustainability is a disastrous recipe for environment and society, and therefore your investment.

The Social dimensions --factors such as whether the company is making a positive impact on the lives of people and the community at large; whether it's engaged in the business of tobacco, alcohol, controversial weapons and gambling operations; whether it's taking stakeholder opposition in the right spirit; discharging its corporate social responsibility; understanding the labour practices it follows, among many others is also pivotal function of 'S' in the ESG theme.

In a sensitive vein, these days, certain investors do not wish to have exposure to companies that inflict or violate health and safety issues to the society at large through their products and/or operations, and/or follow discriminatory labour practices.

'G' for Governance in ESG, looks at aspects such as the background of the founders, their values and vision as they run the organisation, the adeptness of the board, the independence of the board, and their freedom to speak up on important issues, executive compensation, Governance plays a key role, without which, everything can fall apart and progress in its true sense may never see the light of the day.

Note: For illustration purpose only

​So, ESG investing is not purely a 'top-down approach' (as in case of other thematic funds), but also encompasses a 'bottom-up approach' to investing.

The focus would be on businesses that will ensure sustainable management of natural and human resources, have a diverse organisational structure, prudent management, and follow a socially responsible framework of business.

At the broader level, asset managers have a fiduciary responsibility while they serve the interest of investors and the community or society at large. Hence, their investment decisions need to be made paying heed to matters as follows:

Industrial waste management - Whether the corporate is taking due care while disposing of the waste, reducing carbon emissions, etc. so as to not harm the environment.

Energy conservation - The contribution of the corporate towards conserving energy vide use of natural methods viz. solar power, natural lighting, energy-saver lamps and so on.

Land clearance - Is the land clearance for projects done ethically, legally, and with due care for environmental issues.

Wages and Human Resources policies - Whether wages, compensation, and the human resource policies, in general, are the best in the industry for the fair, ethical and non-exploitative and non-discriminatory work environment to prevail. Lastly, in what way is the corporate taking care of the health and safety of the employees?

Social issues - Is the corporate making a positive impact on the lives of people and the community at large? Companies engaged in the business of tobacco, alcohol, controversial weapons and gambling operations should be excluded from the purview.

Governance - A check on the background of the founders, their values and vision as they run the organisation, the adeptness of the board, the independence of the board, and their freedom to speak up on important issues, When a mutual fund scheme follows this theme, it sets the performance matrix accordingly whereby it can measure the sustainability or the future preparedness of the companies under consideration recognising their role in the larger community, the risk involved, competitive advantage, while ultimately aiming to accomplish the stated investment objective of long-term capital appreciation.

Here are a few key benefits of ESG investing:

  1. Diversification- Unlike other sector or thematic funds, good ESG Funds offer fair diversification with of course Environment, Social and Governance aspects being the focus while constructing the portfolio of mainly equity and equity related instruments of companies. The stock picking universe is not limited to a sector but the diverse universe of stocks that satisfy the ESG criteria, which could be from hundreds of companies.

  2. Better investment allocation - For an investor, ESG investing also offers an avenue for better investment allocation. Therefore, in addition to exposure to diversified equity funds, you may also consider investing in an ESG Fund to enhance your investment returns.

  3. Competitive advantage for potential returns - If the portfolio of an ESG fund is well-constructed, comprising of companies offering a competitive advantage in the long-term, it can result in outperformance compared to its benchmark index.

Thus, if you as an investor are willing to embrace the trend of socially responsible investing and use the investment process that reflects values and beliefs, it can reap the sweet fruit of worthy returns in the long run in the form of better risk-adjusted returns. Note that ESG compliance by companies is their only way to ensure prosperity and perpetuity, which in turn can prove rewarding for their investors.

In fact, it is high on the risk-o-meter.

This is because the fortune of an ESG Fund is closely linked to the fortune of the underlying theme.

Is it worth taking the risk?

Purely depends on the investors' risk profile, broad investment objective, the financial goals being addressed, and the time horizon before the goal realises.

If the you have the stomach for high risk, with the broader investment objective being capital appreciation, and the financial goal being addressed is 3-5 years from now, an ESG Fund can be a worthy addition to the portfolio.

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Graph 3: Risk-return spectrum

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