The impact of COVID-19 on ESG investing

When Milton Friedman famously proclaimed in his 1970  New York Times article that the overarching social responsibility of business is to increase its profits, the world was in a very different state than it is today. Fifty-two years onwards, Friedman’s shareholder doctrine which centres around the traditional market economy mindset of maximising shareholder returns no longer reflects the modern, more nuanced understanding of businesses’ social responsibilities – where profit-driven companies must consider not only the direct interests of their own key stakeholders, but those of wider society too.

In today’s era, companies across all industries are increasingly using Environmental, Social, and Governance (ESG) criteria as a benchmark for change by reinventing themselves, shifting market norms, and working towards creating tangible impact for a greener, healthier, and more sustainable future. From an investor standpoint, the growing relevance of ESG in the modern world has had large- scale repercussions on the investment landscape. This balancing act between achieving pure profit-oriented outcomes and considering long-term sustainability is where ESG investing comes into play. This is based on the underlying assumption that the financial performance of organisations is affected by the three components of E, S, and G – the wider environmental and social context, as well as the organisation’s internal structures and systems of practices.

It is important to recognise that the concept of ESG investing is nothing new; the release of the Principles for Responsible Investments (PRI) in 2006 set the landmark in the investing world as the first time the United Nations incorporated ESG factors into its guidelines on business policy and strategy. Under ESG investing, investors additionally look at data – for instance on a company’s diversity initiatives, or their carbon footprint disclosures – beyond merely the financial statements when considering the risks and growth opportunities in their potential investments.

However, in light of the unprecedented levels of disruption posted by the COVID-19 pandemic, the influence of ESG principles on investor decisions has been compounded to new levels. This has partially been attributed to what many call the COVID-accelerated social awakening.

ESG investing in the era of COVID-19

At a time in which doom (yet blissful) scrolling and coffee whipping took the wheel, the COVID-19 pandemic shaped the investment landscape in incredible ways, from the GameStop phenomenon to the rise in retail investing as a pastime and the spotlight on ESG investing.

Indeed, COVID has changed our daily lives in unimaginable ways, as it has brought about mass casualties, economic recessions, food shortages, and political unrest. It has essentially exposed the current cracks in the system, exacerbating social injustices and inequities. As such, many companies have had to undertake a people-first approach, putting the welfare and needs of their employees and consumers first, as per the social aspect of ESG. Further, a JP Morgan survey of investors with an accumulation of US$12.9 trillion in assets under management had 71% of respondents stating that it is likely an ‘occurrence of a low probability [and] high impact risk, such as COVID-19, would increase awareness and actions globally to tackle high impact / high probability risks such as those related to climate change and biodiversity losses,’ bringing about the environmental element. This shift in attitudes has also been brought about by further circulation of information regarding the climate crisis (and overall inaction) and the Black Lives Matter movement, spurring many investors to factor ESG elements into their decision-making processes.

With this context in mind, it comes as no surprise that more and more investors at both the institutional and retail level are incorporating ESG considerations into their decision-making with the belief that ESG adds long-term value to their investment. Increasing interest in ESG investing is reflected in the numbers, including a 2021 Investopedia survey claiming that 62% of respondents have recently taken up ESG investments, with 40% factoring in ESG in the last two years. This has translated to high ESG performance on the stock market, wherein ‘24 of 26 all ESG-tilted index funds beat similar conventional funds’ in 2020. Additionally, high-rated ESG funds have remained relatively resilient in the face of economic downturn induced by COVID. Given the need to navigate a complex and changing business landscape which may be at any time ridden by market shocks such as the pandemic, the data on the strong financial performance of companies incorporating ESG into their policies in recent times suggest ESG places them in a better position to identify the wide array of opportunities and mitigate future risks that could affect companies’ share prices and investor returns.