Impact investing is a broad category that includes a wide range of strategies; among them are two that are focused on the environment as well as social and governance issues: ESG (for environmental, social, and governance issues) and SRI (for socially responsible investing).
Investors who are interested in making an impact with their investing dollars may want to consider funds that embrace ESG or SRI strategies, but impact investing can include other goals as well (e.g., investing in or avoiding certain industries or sectors, or goals).
While there are ways in which these three strategies overlap, it’s important to understand the distinctions as they pertain to your own investing goals.
Key Points
• Impact investing refers to strategies that focus on having a measurable impact on certain companies, industries, or sectors.
• Impact investing is a broad category that can include a range of strategies, including ESG (environmental, social, and governance) and SRI (socially responsible investing), as well as others.
• As investor interest in ESG and SRI strategies has grown, so have inflows to funds that adhere to certain standards.
• Despite investor interest, standards and metrics vary widely when it comes to ESG, SRI, or any other type of impact investing.
Understanding ESG, SRI, and Impact Investing
These days, numerous companies seek to meet certain ethical, social, environmental, or other standards. While some criteria have been inspired by the United Nations’ Principles for Responsible Investment, or the U.N.’s 17 Sustainable Development Goals, investors need to bear in mind that the definition of ESG, SRI, and impact investing can vary from company to company, from country to country.
Nonetheless, investor interest in these strategies continues to grow. In fact, 67% of asset owners (e.g. institutional investors) say that over the last five years ESG standards have become even more critical to the investment process, according to a 2023 survey by Morningstar, the fund research and rating company.
As a result a number of companies have developed proprietary screening tools and scoring methods to help investors assess different investments, including stocks, bonds, ETFs, and more.
Defining ESG, SRI, and Impact Investing
That being said, the lack of clearcut ESG and SRI standards dates back to the very beginnings of these strategies.
As early as the 18th century, religious groups like the Methodists would take a financial stand against certain societal problems (e.g., the slave trade or alcohol and tobacco manufacturing) by not investing in related organizations. This values-based approach became known over time as impact investing.
Today, ESG and SRI investing can be considered modern offshoots of that philosophy — but typically with a focus on investing proactively in certain companies or sectors with the goal of supporting specific changes or outcomes.
It’s still possible to invest in ESG and SRI strategies that explicitly avoid certain industries, companies, or types of products (e.g., avoiding companies known to use child labor).
Impact investing tends to be used interchangeably with the term values investing, as well as ESG and SRI investing, but again these strategies have different aims and standards.
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Impact Investing
The goal of impact investing is for investments to have a positive, measurable impact in a given area. That might mean avoiding industries (e.g. alcohol or weapons), or investing directly in social, environmental, political, or other concerns.
Some mutual funds or exchange-traded funds (ETFs) may utilize impact investing strategies, but impact investing may also involve private funds, such as closed-end private equity and venture capital funds. This is partly because some public companies have to prioritize financial goals to meet shareholder expectations or earnings forecasts, and impact goals alone may not suffice (more on profitability below).
Following are some examples of impact investing categories:
| Impact Category | Metrics |
|---|---|
| Environmental |
• Trees planted • Solar panels installed • Greenhouse gas emissions limited or reduced |
| Women’s Empowerment |
• Female founders supported • Number of female employees |
| Jobs and Education |
• Jobs created • Income creation • Access and enrollment targets |
| Affordable Housing |
• People housed • Number of units built |
| Essential Services |
• Individuals in need of bank accounts • Patients served in medical facilities |
ESG Investing
ESG stands for environmental, social, and governance factors. It’s a set of criteria that can help investors evaluate companies according to how well they uphold or meet relevant criteria, in addition to financial concerns.
ESG investing is considered a form of sustainable or impact investing, but companies that embrace this term theoretically must focus on positive results in those three areas.
When ESG strategies started gaining more attention in the 1960s, some investors assumed ESG investing was primarily about values and ethics. Over time investors come to realize that ESG strategies may also impact a company’s financials. For example, ESG reporting can help illuminate potential risks to company performance, not only progress toward sustainability goals.
Still, adoption of ESG reporting and analysis has been slow owing to a lack of consistency around standards and metrics for meeting these criteria. While the SEC adopted new rules in early 2024 to help “standardize climate-related disclosures by public companies and in public offerings,” it soon stayed those rules when a number of groups filed petitions for review in multiple courts of appeals.
Overall, there is still quite a bit of variance in these standards.
However, the table below shows some common ways to assess a company’s adherence to ESG standards:
| Environmental | Social | Governance |
|---|---|---|
| Energy consumption | Community engagement and support | Diversity in the board of directors |
| Waste and pollution | Human and labor rights | Management performance |
| Climate change mitigation and adaptation | Health and safety impacts on products, local areas, etc. | Executive compensation |
| Conservation and protection of biodiversity | Shareholder relations | Corruption |
| Resource management, such as water usage and sanitation | Employee relations | Disclosures and transparency |
SRI
Socially responsible investing, or SRI, is another impact investing category that focuses on social and ethical issues. SRI mutual funds were among the first values-based investment products on the market.
While SRI is similar to ESG, it’s more broadly defined. Unlike ESG investing, which revolves around a set of standards, SRI doesn’t have clearly defined criteria, and investment strategies vary depending on the company.
SRI-focused investors might choose to avoid certain investments or industries, or choose companies that specifically work on or donate to certain causes. Investors may need to evaluate companies and funds based on their own criteria.
SRI investing strategies can include a focus on one or more of the following:
• Alternatives to fossil fuels (e.g., clean energy like wind or solar technologies)
• Avoiding so-called vice industries like alcohol, tobacco, cannabis, gambling
• Investing in female or minority-led companies, or companies with a social justice mission
• Avoiding companies relating to arms manufacturing and the military
• Investing in companies that adhere to human rights standards
• Supporting specific environmental outcomes, e.g. mitigating air and water pollution, safer agricultural practices, and so on
Is Sustainable Investing Different from ESG, SRI, and Impact Strategies?
Sustainable investing strategies can encompass SRI as well as ESG strategies. And while some investors use sustainable investing and impact investing interchangeably, it’s important to remember that not all impact investing is sustainable in nature.
Can SRI or ESG Investing Be Profitable?
The performance of SRI and ESG strategies versus their conventional peers have long been subject to debate. Nonetheless, the value of assets allocated to ETFs with an ESG focus has grown steadily in the last two decades. As of November 2023, according to data from Statista, the value of global assets in ESG funds was $480 billion — a substantial jump from $5 billion in 2006.
Investors interested in SRI and ESG strategies may want to examine the FTSE4Good Index Series: a compilation of stock indexes that track companies that seek to meet certain criteria or achieve certain environmental, social, or corporate governance goals. Morningstar has also developed a sustainability rating system, in use since 2016.
The Takeaway
Investors may want to bear in mind that, with the steady growth of ESG and SRI strategies in the last couple of decades, investment opportunities that focus on having an impact on the world are likely to expand.
In addition, the underlying goal of these strategies is to make a difference and potentially see a profit as well. That said, impact strategies overall don’t reduce investment risk factors; all types of impact investing, including ESG and SRI strategies, are subject to the same economic and market risk factors as conventional strategies.
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