The next steps for sustainable investments

Sustainable investing has moved from being a niche to becoming mainstream in recent years. Initially it was all about how environmental, social and governance (ESG) factors affect the way companies do business.

Related SDGs

radicant is now committed to taking sustainable investing to the next level by focusing on the impact of companies on the environment and society. We firmly believe that only companies that make a positive contribution to addressing the major sustainability challenges are equipped for dealing with the future. Here are the three starting steps on how we undertake this at radicant.

From ESG Financial Filter to Impact Orientation

Investments can be described as sustainable or responsible if they integrate environmental, social and governance factors into the investment process in some way. Initially, such integration was characterized by rather ethically motivated exclusion criteria of entire groups of companies (e.g., tobacco and weaponry). The second generation of sustainable investing, which has now entered the “mainstream,” considers sustainability factors that are financially relevant to companies. The focus is on how financially significant ESG factors affect companies’ growth, profit performance, and balance sheets. By applying a suitable filter, it was possible to prioritize the better security issuers from an ESG perspective. However, this consideration is also known as “single materiality.” It contrasts with “double materiality” where not only the impact of ESG factors on business operations is considered, but also the impact of companies on the environment and society.

We assess impacts against the UN’s 17 Sustainable Development Goals (SDGs). For us, these are just as essential key figures as financial data. After all, if a company supports the “Agenda 2030” with its activities, it is fit for the future. If its activities counteract the achievement of the SDGs and have a significant negative effect on society and the environment, we will not consider the company.

From Footprint to “Handprint”

The second factor that distinguishes the traditional ESG approach from our SDG-driven approach is our emphasis on handprints. Traditional ESG factors focus on the operations of a company. The question here is what kind of “footprint” said operation has. For example, the carbon footprint, the water footprint, the toxics footprint, the occupational injury rate, and so on are measured. Often the question is forgotten whether the manufactured product has a future at all in the face of major challenges such as climate change and resource scarcity. It should not be forgotten that even a diesel-powered car manufactured with fair wages, controlled supply chains and reduced harmful emissions remains an outdated model. Especially in light of the Paris Agreement accepted by the international community. In order to holistically assess how sustainable companies are, more attention should be paid to what the company produces, or in other words, what “handprint” it creates.

Here, too, the 17 SDGs guide us, if products and services help to achieve these Global Goals, we consider them unique business opportunities.

Absolute Goal Orientation Instead of Relativity

The third difference between traditional ESG investments and our new generation of SDG-focused investments has to do with goal setting. Traditionally, sustainable investing has been caught in the “relative” view of sustainability analysis. The ESG quality of a portfolio will be benchmarked against that of a comparative index. Through various processes (e.g., exclusion criteria, ESG integration, or best-in-class approach), the goal was to select investments that made the portfolio look better than the benchmark in terms of the ESG dimension. “Better” is far from synonymous with “good,” however, if a company performs better than average in terms of climate efficiency, but still misses the Paris Agreement targets by miles, think again before investing.

That’s why our next generation of sustainable investing aims to replace this “incremental” approach with an explicit sustainable investment target. Supporting the UN’s 17 Sustainable Development Goals provides an ideal metric in this regard. Specifically, the sales of companies in the area of solutions relevant to the SDGs embedded in the portfolio can be used as a target figure here. However, specific metrics can also be elevated to targets, such as water consumption or recycling rates generated by portfolio companies (related to SDG 6 or SDG 12, respectively). Another investment objective can be the decarbonization of the portfolio, i.e., the reduction of CO2 emissions produced by the portfolio companies until the net zero target is reached in 2050.

Sustainability Means Future Viability

Analyzing investments through the lens of the 17 SDGs helps us assess the future viability of security issuers. We do this using three approaches. First, we take a holistic view of both the positive and negative impacts of companies on people and the environment and consider whether they undermine the SDGs or promote them. Secondly, we examine the companies’ product and service offerings to see whether they contain solutions for achieving the SDGs. Thirdly, we set communicable, measurable and, above all, absolute sustainability targets for the portfolios, in order to make a substantial rather than an incremental difference. The goal is environmentally and socially good investments, not simply investments that are “a little better”.

We believe that the major sustainability challenges of our time will have the business environment transform rapidly. During this transformation, only companies that are aligned with the SDGs over the long term will prove sustainable. This investment philosophy is the guiding principle in everything we do at radicant.

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