ESG investing is a trend that, to us, appears to be on the decline. While it began with noble intentions, this approach relies on a shaky foundation which might not help achieve investor goals. The problem lies in that the ESG factors are not clearly defined and left up to one's own interpretation and analysis. A number of research firms attempt to assign numerical ESG scores to securities, but upon scrutiny, their methodologies are inconsistent as are their ratings. A quantitative approach to ESG would only be successful after standardization much like with accounting and financial statements. Standardized carbon accounting might be the first step toward a better outcome. Rather than a quantitative method, we offer clients the choice not to support businesses to which they have a moral objection. We call this approach Ethical Investing. When establishing a client relationship, we ask them about their ethical preferences and if there are any industries or activities to avoid. The results are bespoke to each client. We then explain about the feasibility of excluding certain stocks and how it might affect performance. For example, tobacco stocks have been some of the best performing investments for decades, but many of our clients don't support investing in them. Additionally, we help clients understand that it is not possible to avoid certain stocks if they are included in an ETF or index fund. Our approach helps clients express their ethics while avoiding questionable investment decisions caused by arbitrary ESG rating methods.
Incorporating ESG factors into investment analysis is crucial for long term success I have found. I focus on understanding how a company's practices in these areas impact its financial performance and risk profile. By evaluating a business’s environmental policies, social responsibility, and governance structure, I can assess its sustainability and potential for growth this has worked on roofers to VC's. This approach not only identifies companies that align with ethical values but also those that are likely to outperform in the future due to better risk management and adaptability.
We start by thinking of ESG factors as a company’s “hidden balance sheet.” Instead of just ticking boxes, we treat environmental, social, and governance elements like unrecorded assets or liabilities. For example, we calculate the “carbon debt” of a company—essentially, the future financial impact of its carbon footprint as if it were an overdue loan. We then look at social factors as if they were part of the company’s brand equity, treating employee well-being and community impact as intangible assets that can appreciate or depreciate. Governance is assessed like a risk factor in insurance—if a company’s leadership lacks diversity or transparency, we adjust its risk premium as if we were pricing an insurance policy. This approach allows us to quantify ESG in financial terms, making it integral to our valuation models, not just an ethical checkbox.