ESG 101

Environmental, social and governance (ESG) investing has gone mainstream in recent years, gaining broad acceptance and integration. But when and where did it originate?

Tracing the roots of ESG requires loosely broadening one’s nomenclature and looking back not only to the earliest days of socially responsible investing (SRI), which really came of age in the 1960s anti-Vietnam War protests and ensuing activism on a number of issues. It involves looking at the earliest days of religion-influenced ethical investment concerns in the 18th century among Methodists but even going back to Biblical times in both the Jewish and Arab religions.

Here is a timeline that captures some milestones in the evolution of ethical, socially responsible and impact investing and modern day ESG investment practices.

18th century United States: Led by Reverend John Wesley, the Methodists avoid “sin stocks,” including investments in companies producing liquor or tobacco or promoting gambling.¹

1950: Boston-based Pioneer Fund, established in 1928, adopts SRI principles.

1950s: Various employee unions start investing pension assets in affordable housing and health facilities.

1960s: Anti-Vietnam War protests lead to boycotts of defense contractors and avoiding investing in chemical companies that produced Agent Orange, a deadly chemical weapon.

April 22, 1970: The first Earth Day broadly raises awareness of environmental concerns, leading to the creation of the Environmental Protection Agency (December 1970) and numerous environmental-protection laws.

1971: Pax World Balanced Fund is founded by two members of the United Methodist Church, Luther Tyson and Jack Corbett, launched in part as a vehicle for religious investors to follow their ethical and moral principles in avoiding companies involved in supply chains for the Vietnam War.

1970s: Additional SRI funds are launched as interest in SRI grows.²

1980s: Anti-apartheid protests lead to movements to divest from companies with South African ties. Major environmental disasters, including the Three-Mile Island nuclear accident (1979), the Chernobyl nuclear disaster (1986), and the Exxon Valdez Alaska oil spill (1989), raise further concerns about environmental protection and the role of investments.

1984: The United States Sustainable Investing Forum (SIF) is launched as a major resource on SRI and impact investing.

1986: The U.S. Congress bans new investment in South Africa.

1986: Calvert Investments becomes the first investment firm to sponsor a shareholder resolution tied to a social issue.

1988: James S. Coleman authors an article in the American Journal of Sociology titled “Social Capital in the Creation of Human Capital,” challenging dominance of the self-interest concept in economics and introducing the concept of social capital into the measurement of value.

1989: The Coalition of Environmentally Responsible Economies (CERES) is formed in response to the Exxon Valdez oil spill. It brings together investors, business leaders and public-interest groups to work towards sustainability and a low-carbon economy.

1990: Domini Social Index, now the MSCI KLD Social Index, is launched as the first capitalization-weighted index to track sustainable investments. An SRI alternative to the S&P 500 Index, it provides a way to measure and validate SRI performance.

1990s: Investment concerns include the use of sweatshops by multinational corporations and the impact of tropical deforestation.³

1992: The United Nations Framework Convention on Climate Change (a.k.a. the Earth Summit) in Rio de Janeiro leads to an international environmental treaty signed by 154 countries aiming to curb global environmental impacts.

1994: 26 sustainable funds are available, with assets of roughly $1.9 billion.

1997: The Kyoto Protocol convenes to address global warming; 192 countries pledge to reduce greenhouse gas (GHG) emissions.

1997: The Global Reporting Initiative is founded in Boston as an independent international organization helping businesses and organizations take responsibility for their impacts.

1997: SustainAbility’s John Elkington authors Cannibals with Forks: the Triple Bottom Line of 21st Century Business, and identifies non financial considerations as factors determining a company or equity's value. He coins the phrase "triple bottom line," referring to financial, environmental and social factors.

1998: Robert Levering and Milton Moskowitz develop the Fortune 100 Best Companies to Work For, a list of leading U.S. companies with regard to corporate social responsibility. The spotlight on the corporate governance aspect of responsible investment concerned how companies were managed, what the stockholder relationships were and how employees were treated.

2000: The United Nations Global Compact is launched, calling on companies to align strategies and operations on human rights, labor, environment, and anti-corruption. Today, more than 13,000 companies in 130 countries are signatories to the Global Compact.

2004: UN Secretary General Kofi Annan asks major financial institutions to partner with the UN and the International Finance Corporation to identify ways to integrate environmental, social and governance concerns into capital markets. The resulting 2005 study Who Cares Wins marked the first use of the term ESG.

2005: The United Nations Environment Programme Finance Initiative commissions a report from the international law firm Freshfields Bruckhaus Deringer interpreting the law with respect to investors and ESG issues. It concludes that ESG integration into investment analysis was permissible and, arguably, a fiduciary duty.

2006: United Nations Principles for Responsible Investment (PRI) is launched. It now has more than 3,000 signatories.

2009: A review of 160 socially responsible mutual funds finds that 65 percent of the funds had outperformed their respective benchmarks.⁴

2010: There are 250 mutual funds in the U.S. using SRI criteria.⁵

2011: The Sustainability Accounting Standards Board (SASB) is launched to standardize sustainability accounting and measurements across 77 industries.

2011: SIF identifies more than $3 trillion in total assets under management using one or more of the SIF’s three core SRI strategies – screening, shareholder advocacy, and community investing.

2015: The Paris Agreement is an internationally binding treaty signed by 196 parties at the United Nations Framework Convention on Climate Change.

2015: The UN Sustainable Development Goals are backed by 193 member states as a call to solve the world’s most urgent development challenges.

2016: CalPERS, the largest public pension fund in the U.S., adopts a five-year plan to incorporate ESG principles into its investment process.

2019: Nearly 500 actively managed funds in the U.S. add ESG criteria to their prospectuses.

2020: Sustainable funds receive a record $51.1 billion in net flows, more than doubling the previous record set in 2019. One-fourth of all flows into funds in the U.S. are in sustainable funds.

2021: Focus on ESG issues continues to increase. Based on a March 2021 KPMG International Limited survey of 500 CEOs in 11 key markets in the Americas, Asia and Europe, business leaders want to preserve and build upon sustainability and ESG accomplishments during the COVID-19 pandemic:

• 89 percent of CEOs want to ‘lock in’ sustainability and climate change gains.
• 96 percent say the pandemic shifted their focus to the social component of ESG, an increase from 63 percent in August 2020.
• 83 percent state that they re-evaluated their purpose during COVID-19 to better address stakeholder needs, up from 79 percent in August.
• And, 99 percent of CEOs say they have a stronger emotional connection to company purpose since the crisis began, up from 79 percent in August.

Download a pdf version of the timeline here. 

 

1. “Socially Responsible Investments: Methodology, Risk Exposure and Performance,” Renneboog, ter Horst and Zhang, European Corporate Governance Institute, June 2007.

2. https://www.mycnote.com/blog/the-history-of-socially-responsible-investing/

3. https://www.greenbiz.com/sites/default/files/document/O16F24963.pdf

4. https://www.thinkadvisor.com/2010/02/17/sri-outperformance-socially-responsible-funds-beat-indexes-09/

5. https://saylordotorg.github.io/text_the-sustainable-business-case-book/s16-01-introduction-to-socially-respo.html.

Additional reading that you may find helpful includes:

https://www.bailard.com/wp-content/uploads/2020/09/History-Socially-Responsible-Investing-and-ESG-Investing.pdf
https://npengage.com/companies/esg-history/
https://www.morningstar.com/features/esg-investing-history
https://www.britannica.com/topic/Shariah

When discussing sustainable investing approaches, we often hear the terms socially responsible investing (SRI); environmental, social and governance (ESG) investing; and impact investing used interchangeably.

While these terms all may fall under a broad umbrella that covers sustainable approaches to investing, each term has a specific meaning and takes a unique approach to complex investing challenges.

The brief explanations and examples here are intended to provide a simple method of distinguishing among the terms.

The following is a list of commonly used ESG/sustainable investing terms and their definitions based on a review of multiple industry sources.

B Corp: Certified B Corporations are businesses that meet the highest standards of verified social and environmental performance, public transparency, and legal accountability to balance profit and purpose, as determined by B Lab.. B Lab defines itself as seeking to transform the global economy to benefit all people, communities, and the planet. It has organized a global network of companies, creates standards, policies, and tools for business, and certifies companies known as B Corps. (See also https://bcorporation.net/ and https://bcorporation.net/about-b-lab).

Benefit Corporation: A benefit corporation has the same structure as a traditional for-profit corporation. The difference between a traditional corporation and a benefit corporation is in its purpose. A traditional for-profit corporation's purpose is to make profits for shareholders. A benefit corporation still has a profit-making goal, but it also has a broader public benefit purpose: to make a material positive impact on society and the environment. Managers must work to achieve this purpose and, as a result, they have the flexibility to make decisions that balance profits with social causes and environmental responsibility. (See also https://www.legalzoom.com/articles/what-is-a-benefit-corporation).

Best in Class: An investment focused on identifying issuers that performed better than their industry or sector peers based on analyses of environmental, social and governance (ESG) issues.

Biodiversity: A measure of variation at the genetic, species, and ecosystem level. (See also https://www.nationalgeographic.org/encyclopedia/biodiversity/).

Biofuel: Biofuel is produced from organic matter or waste through contemporary processes and used as an alternative to fossil fuels.

Carbon Footprint: A measure of an individual’s, group’s or company’s total greenhouse gas emissions. It is measured in equivalent tons of carbon dioxide emitted per year.

Carbon Neutral: When a person, company or country says they are “carbon neutral,” it means they have reduced the amount of carbon dioxide they emit through operations or via carbon credits that finance someone else to reduce their carbon emissions, essentially removing that carbon from the earth’s atmosphere.

Carbon Pricing: Assigning value to greenhouse gas emissions as a way to account for and quantify these emissions and their impact on the environment.

CDP: A not-for-profit charity that runs the global disclosure system to help individuals, companies, cities, states, and regions manage their environmental impacts.

Ceres: A nonprofit organization working to transform the economy to build a just and sustainable future for people and the planet.

Chief Executives for Corporate Purpose (CECP): A CEO-led coalition that believes that a company’s social strategy — how it engages with key stakeholders, including employees, communities, investors, and customers —determines its success.

Climate Action 100+: An investor-led initiative to ensure the world’s largest corporate greenhouse gas emitters take necessary action on climate change.

Climate Change: A shift in weather patterns due to a heating of the Earth's atmosphere, highly attributed to the burning of fossil fuels and other polluting activities that cause a release of greenhouse gasses.

Clean Energy/Renewable Energy: Perpetual energy sources—including solar, wind, geothermal, hydroelectric and biomass—that are not derived from fossil fuels.

Circular Economy: An economic system designed to produce no waste or pollution. (See also “Zero Waste” definition herein).

Conference of the Parties (COP): COP is an annual conference attended by countries that signed the United Nations Framework Convention on Climate Change (UNFCCC) treaty in 1994. November 2021 marks COP26, the 26th such meeting. (See also https://www.bbc.co.uk/newsround/51372486).

Corporate Social Responsibility: A business approach that takes into account economic, environmental, social and ethical impacts for a variety of reasons, including managing risks and costs, and seeking to improve stakeholder relations and enhance competitiveness and sustainability.

CSR Report: A Corporate Social Responsibility or Corporate Sustainability Report is an internal- and external-facing document that companies use to communicate social responsibility/sustainability efforts and their impact on the environment and community. An organization’s CSR efforts can fall into four categories: environmental, ethical, philanthropic, and economic. (See also https://online.hbs.edu/blog/post/what-is-a-csr-report).

Diversity, Equity, and Inclusion: Diversity in an organization involves recruiting a variety of people from different ethnicities, abilities and perspectives, including women and minorities. It also involves respect and appreciation for these differences. Equity involves creating fair access, opportunity and advancement for all people within an organization. Inclusion involves valuing and respecting everyone within a diverse workforce and actively promoting a sense of belonging. All three are important in support of an open, inviting and supportive work environment that can encourage a workforce in pursuit of organizational goals. (See also https://www.hud.gov/program_offices/administration/admabout/diversity_inclusion/definitions and https://ideal.com/diversity-equity-inclusion/#:~:text).

Divestment: Selling or disposing of shares or other assets in full or part based on corporate behavior and social, environmental or ethical considerations.

Environmental Factors: The "E" in ESG. Environmental factors relate to the quality and functionality of the natural environment and natural systems, assessed in responsible investment processes. It includes energy use, waste production and management, climate change, and pollution of water, air or other resources.

Environmental, Social and Governance (ESG): ESG considers a variety of issues that fall under environmental, social and corporate governance factors that may affect the current or future financial, economic, reputational, and/or legal prospects of an issuer, security, investment or asset class. (See also “Environmental Factors,” “Social Factors” and “Governance Factors” definitions herein).

ESG integration: The process of including ESG factors and integrating their economic impact into fundamental investment analyses with the goal of long-term performance growth and risk mitigation. This is often used with negative screening and thematic investing. (See also “Exclusionary (or Negative) Screening” and “Thematic Investing” definitions herein).

Ethical Investing: An investment approach that is guided by an investor’s moral and ethical principles and values, which can include religious beliefs.

EU Taxonomy (for Sustainable Activities): A robust, science-based transparency tool for companies and investors that was promulgated by the European Commission Joint Research Centre. The taxonomy creates a common language system established for investors to use to clarify which investments are environmentally sustainable, in the context of the European Green Deal. (See also https://ec.europa.eu/commission/presscorner/detail/en/ip_21_1804).

Exclusionary (or Negative) Screening: The process of excluding certain companies and/or sectors from an investment portfolio. Investors might decide to do this for a variety of reasons, including ethical considerations, ESG performance relative to their peers, or based on specific ESG criteria.

Extra-financial Risks: Risks that are not covered by traditional financial risk management, such as liabilities related to poor performance on ESG metrics, including environmental contamination, poor sustainability practices, and related reputational damage.

Gender Equity: The creation of equal and/or equitable opportunities, treatment and pay in the workplace regardless of gender.

Gender Lens Investing: Making investments that benefit women and girls by improving their access to opportunities, contributing to their well-being, enhancing their personal safety and security, and/or promoting a better life.

Global Reporting Initiative (GRI): An international independent standards organization that helps businesses, governments and other organizations understand and communicate their impacts on issues related to climate change, human rights and corruption. (See also globalreporting.org).

Governance Factors: The "G" in ESG. Governance factors relate to how a company is managed, which includes, but is not limited to, management structure, executive compensation, internal controls and accountability policies, auditor independence, and shareholder rights.

Green Bonds: Bonds whose proceeds fund new or existing environmental or climate projects.

Greenhouse Gas (GHG) Emissions: The levels of harmful greenhouse gases, including carbon dioxide, sulfur dioxide, methane and other noxious gases, that are byproducts of a company’s industrial processes.

GHG Protocol: The GHG Protocol establishes global standardized frameworks to measure and manage GHG emissions. Building on a long-term partnership between World Resources Institute (WRI) and the World Business Council for Sustainable Development (WBCSD), GHG Protocol works with governments, industry associations, nongovernment organizations, businesses and other organizations. (See also https://ghgprotocol.org/)

Greenwashing: Promoting a product, service or company as more environmentally friendly than it truly is through false or misleading advertising of environmental benefits.

Impact Investing: Impact investments are made with the intention to generate positive, measurable social and environmental impact alongside a financial return. They provide capital to address pressing challenges in sectors such as sustainable agriculture, renewable energy, conservation, microfinance, and affordable and accessible basic services, including housing, health care and education. (See also https://thegiin.org/impact-investing/need-to-know/#what-is-impact-investing).

Integrated Reporting: Integrating both sustainable and financial targets and considerations into a single report.

Issuer Engagement: The process of an investor in the equity (stocks) or debt (bonds) of an issuer (a bondholder or shareholder) engaging with the management of the security-issuing firm or government entity to begin or continue a discussion related to investor concerns, such as ESG practices, disclosure and other related considerations.

Materiality: Materiality is a measure of the importance of specific topics and information during the investment analysis process. In ESG investing, materiality helps identify the most important or relevant ESG information to consider when screening and selecting an investment.

Net Zero: A target of completely negating the amount of greenhouse gases produced by human activity. This can be achieved by reducing greenhouse gas (GHG) emissions and implementing methods of absorbing carbon dioxide from the atmosphere.

Physical Climate Risks: Climate change-related risks, such as floods, droughts and severe storms, that affect our society directly and have the potential to do material economic harm. (See also https://www.bankofengland.co.uk/knowledgebank/climate-change-what-are-the-risks-to-financial-stability).

Positive Screening: Investing in companies or governmental bond issuers that demonstrate leadership in environmental, social and governance issues. It involves the use of filters to identify and assess the most positive or promising potential investments based on assessing ESG performance.

Science-Based Targets Initiative (SBTi): The Science-Based Targets Initiative promotes best practices in emissions reductions and net-zero targets in line with climate science and in support of the Paris Agreement goals. (See also https://www.wri.org/initiatives/science-based-targets).

Scope 1 – Under the GHG Protocol, All Direct Emissions from the activities of an organization or under its control. This includes fuel combustion on site, such as gas boilers, fleet vehicles and air-conditioning leaks. (See also “GHG Protocol” definition herein).

Scope 2 – Under the GHG Protocol, Indirect Emissions from electricity purchased and used by an organization. Emissions are created during the production of the energy and eventually used by the organization. (See also “GHG Protocol” definition herein).

Scope 3 – Under the GHG Protocol, All Other Indirect Emissions from activities of an organization, occurring from sources that it does not own or control. These usually make up the greatest share of the carbon footprint, covering emissions associated with business travel, procurement, waste and water.
(See also https://compareyourfootprint.com/difference-scope-1-2-3-emissions/ as well as “GHG Protocol” definition herein).

Shareholder Advocacy: A way that stock shareholders can influence a corporation's behavior on a range of policies and practices, including ESG issues, by exercising their rights as partial owners through filing a resolution or via the proxy voting process. (See also https://iasj.org/about-shareholder-advocacy/).

Sin Stocks: Shares in companies engaged in or associated with activities judged by investors to be immoral or unethical. Some examples include companies that produce or distribute alcohol, tobacco or weapons, or run gambling or adult entertainment businesses.

Social Bonds: Social bonds raise funds for new and existing projects with positive social outcomes. For example, bond proceeds might finance access to essential health, education or financial services, affordable housing, or microfinance for small business. (See also https://www.icmagroup.org/sustainable-finance/the-principles-guidelines-and-handbooks/social-bond-principles-sbp/).

Social Factors: The "S" in ESG. Social factors relate to how a company treats its employees and the community. These include such issues as employee diversity and inclusion, employee engagement programs, human rights policies, health and well-being initiatives, labor relations, and consumer protection.

Social Progress Index (SPI): The index measures the performance of a country in meeting the basic human needs of its citizens, establishes the building blocks that allow citizens and communities to enhance and sustain the quality of their lives, and creates the conditions for all individuals to reach their full potential. (See also https://www.isc.hbs.edu/research-areas/Pages/social-progress-index.aspx).

Socially Responsible Investing (SRI): An investing strategy or approach that considers a positive or desirable social outcome alongside a financial return. It can involve positive and/or negative screening. (See also “Exclusionary (or Negative) Screening” and “Thematic Investing” definitions herein).

Stakeholder Engagement: An engagement process that, while similar to issuer engagement, expands beyond security holders to include other members of communities that may be affected by the policies and practices of a security issuer. (See “Issuer Engagement” definition herein).

Stranded Assets: Fossil fuel supply and generation resources that could lose their value as a result of the transition to a low-carbon economy. (See also https://www.theimpactivate.com/understanding-the-risk-of-stranded-assets/).

Sustainability Bonds: Proceeds of sustainability bonds will be exclusively applied to finance or re-finance a combination of green and social projects. Green bonds may finance projects aimed at, for example, energy efficiency, pollution prevention, sustainable agriculture, fishery and forestry, the protection of aquatic and terrestrial ecosystems, clean transportation, clean water, and sustainable water management. Social bonds may finance projects related to, for example, food security and sustainable food systems, socioeconomic advancement, affordable housing, access to essential services, and affordable basic infrastructure. (See also https://www.icmagroup.org/sustainable-finance/the-principles-guidelines-and-handbooks/sustainability-bond-guidelines-sbg/#).

Sustainability-Linked Bonds: Bonds issued with financial and/or structural characteristics that may vary depending on whether the issuer achieves predefined sustainability or ESG goals. For example, issuers might have to make additional payments to bondholders if they fall short of their sustainability or ESG goals. (See also https://www.spglobal.com/ratings/en/research/articles/210428-how-sustainability-linked-debt-has-become-a-new-asset-class-11930349).

The Sustainability Accounting Standards Board (SASB): A non-profit organization whose goal is to develop sustainability accounting standards. (See also https://www.sasb.org/).

Sustainable Development Goals (SDG): Also known as the Global Goals, the SDG are 17 goals that were adopted by the United Nations in 2015 as a universal call to action to end poverty, protect the earth, and achieve peace and prosperity for all people by 2030. (See also https://sdgs.un.org/goals).

Sustainable Finance Disclosure Regulation (SFDR): Introduced by the European Commission, the SFDR mandates asset managers and other financial markets participants to provide standardized disclosure on how they integrate ESG factors at both an entity and product level. (See also https://assets.kpmg/content/dam/kpmg/ie/pdf/2021/03/ie-sustainable-finance-disclosure-reg-sfdr.pdf).

Sustainable Investing: A responsible and forward-thinking investment approach largely focused on sustainability. It is an umbrella term that can include negative screening, ESG integration and impact investing. (See also “Exclusionary (or Negative) Screening,” “ESG Integration” and “Impact Investing” definitions herein).

Task Force on Climate-Related Financial Disclosures (TCFD): The TFCD was created in 2015 by the Financial Stability Board (FSB) to develop consistent climate-related financial risk disclosures for use by companies, banks and investors in providing information to stakeholders. (See also https://www.unepfi.org/climate-change/tcfd/).

Thematic Investing: Thematic investing can enable investors to address ESG issues by supporting dedicated solutions, such as renewable energy, waste and water management, sustainable forestry and agriculture, health products, and inclusive finance. (See also https://www.unpri.org/investment-tools/thematic-and-impact-investing#).

Transition Risk: Financial risks that could arise from changes to policies, laws, technology, and capital markets as we transition to a lower-carbon economy and climate-resilient future.

Triple Bottom Line: An accounting framework with three main components: social, environmental and financial. Companies focused on a triple bottom line believe that, instead of a single bottom line, there are three bottom lines–people, planet and profit.

United Nations Framework Convention on Climate Change (UNFCCC): The UNFCCC secretariat (UN Climate Change) is the United Nations entity tasked with supporting the global response to the threat of climate change. Created in 1992, the UNFCCC holds annual conferences that bring together all parties to the Convention: the United Nations Climate Change Conference (UNCCC). The Convention has 197 parties and is the parent treaty of the 1997 Kyoto Protocols and the 2015 Paris Agreement. (See also https://unfccc.int/about-us/about-the-secretariat).

United Nations Principles for Responsible Investing (UN PRI): A United Nations-supported international network of investors working together to implement its six aspirational principles, often referenced as "the Principles.” (See also https://www.unpri.org/pri/what-are-the-principles-for-responsible-investment).

Values-Based and Impact Investing: An investing approach that reflects an investor’s values or pursuit of favorable ESG-related outcomes through investment rather than a strict focus on investment returns. Values-based or Impact investments typically are made with the intention to generate positive, measurable environmental, social or other positive outcomes alongside a financial return. These investing approaches generally seek to allocate capital to address pressing challenges in sectors such as sustainable agriculture, renewable energy, conservation, microfinance, and affordable and accessible basic services, including housing, health care and education.

Zero Waste: A set of principles focused on preventing a generation of waste by redesigning products, rethinking how products are used, and reusing products with the goal of eliminating waste sent to landfills. (See also “Circular Economy”).

Download a pdf of the ESG Glossary here.