Believe it or not, investing for the betterment of society can be wildly rewarding as well. This is what we have observed in recent years with the uptick in sustainable investments. In 2020 alone, an impressive $51 billion went towards such funds while 71 new ones were created. ESG funds invest in companies adhering to environmental, social, and governance principles, focusing on sustainability and positive societal impact.

Sustainable index funds, as an arm of socially responsible investing, have surged in popularity due to their impressive performance during market downturns. In 2018 and 2020, companies with higher ESG ratings had a greater degree of resilience than those without such commitment.

This can be observed by comparing the S&P 500 ESG Index against its standard counterpart – over the past one-year, three-year, five-year, and 10-year reporting periods, its ESG stocks have consistently beaten out the traditional index (S&P INDEX: ^GSPC).

What Are ESG Funds in Sustainable Investing?

Investing in ESG funds, bond funds, investment funds, ethical tracker funds, environmentally friendly mutual funds, ESG-focused ETFs, socially conscious ETFs, etc., is an effective way to support companies that are dedicated to creating a positive environmental, social, and governance impact. Companies with these initiatives typically strive for some or all of the following objectives:

• Enhance energy efficiency
• Decrease emissions
• Foster social progress in communities and the workforce
• Avert human rights violations in supply chains
• Ensure ethical business conduct
• Capital growth
• Establish board autonomy and reporting openness.

The investment process of ESG funds involves evaluating companies based on their environmental, social, and governance practices to identify ESG-compliant organizations. In short, businesses that prioritize ESG are acting responsibly by contributing to positive reformations of their environment while reducing negative effects.

ESG funds, often paralleled with sustainable or ethical investment funds, can take the form of mutual funds or exchange-traded funds (ETFs). By investing in ESG funds, you acquire an ownership stake that gives you access to the fund’s holdings and also lets you share in its performance. Furthermore, these fixed income investments provide more than just financial returns; they are ideal for those who want to support companies with exemplary corporate citizenship.

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Definition and Benefits of ESG Funds

ESG (Environmental, Social, and Governance) funds are a type of investment fund that applies ESG criteria to its investment decisions. These funds aim to provide a more sustainable and responsible investment option, allowing investors to align their investments with their values and goals. ESG funds can help investors contribute to positive social and environmental change while also potentially reducing exposure to traditional risks. The benefits of investing in ESG funds include:

• Contributing to Positive Social and Environmental Change: By investing in companies that prioritize ESG factors, you support initiatives that promote sustainability, social equity, and ethical governance.
• Reducing Exposure to Traditional Risks: Companies with strong ESG practices often have better risk management and are less likely to face regulatory fines, lawsuits, or reputational damage.
• Aligning Investments with Personal Values and Goals: ESG funds allow you to invest in a way that reflects your personal beliefs and values, making your investment journey more meaningful.
• Potential for Long-Term Performance: Companies with robust ESG practices tend to be more resilient and can offer competitive long-term returns.
• Diversification of Investment Portfolios: ESG funds provide exposure to a diverse range of industries and sectors, enhancing the overall diversification of your investment portfolio.

How do ESG funds work?

Investing in ESG funds allows investors to tie their portfolios to the three key principles of environmental, social, and corporate governance values. If you are interested in this type of investing, you must find investments that would support one or more core ESG beliefs.

Passively managed funds, often referred to as index funds, aim to mirror the performance of a specific market index and generally come with lower fees, making them a preferred option for cost-conscious investors.

Environmental

Sustainable investing can be a great way to promote environmental stewardship. As an investment that helps conserve and protect the environment, it may help a given business or operating system reduce greenhouse gas emissions (GHGs), enhance energy efficiency, use natural resources more effectively via the preservation of land, improve waste management systems, or securely dispose of hazardous materials. 

Social

This aspect concerns the relationship between a business and its primary stakeholders: employees, suppliers, and consumers. These investments seek to advance social measures, such as in developing and implementing fair and equitable labour laws, engaging with and supporting local communities affected by company activities, and making firm guarantees that legally protected workplace conditions are in place for employees, such as healthcare benefits, educational opportunities, environmental hygiene, and career development options.

Governance

Enhancing the standards of leadership, shareholder rights, or risk management are known as governance factors. Reinforcing the corporate governance of a company often involves developing a culture of overall informational transparency, so ESG fund financing can be used to motivate fair business operations, secure voting rights for stakeholders, promote hiring diversity, and guarantee equitable pay scales throughout the entire corporate structure, while improving accountancy and taxation transparency.

Therefore, if one of the three ESG principles is the primary driving force behind a given investment opportunity, then you are likely partaking in an ESG fund.

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How to Choose the Best ESG Fund

Choosing the best ESG fund for your investment needs requires careful consideration of several factors. Here are some steps to help you make an informed decision:

1. Understand Your Investment Goals and Values: Consider what you want to achieve with your investment and what values you want to prioritize. Are you more focused on environmental sustainability, social justice, or corporate governance?
2. Research Different ESG Funds: Look into various ESG funds and their investment strategies, fees, and performance. Compare how different funds approach ESG criteria and their track records.
3. Evaluate the Fund’s ESG Criteria: Consider the fund’s ESG criteria and how they align with your values and goals. Look for funds that have a transparent and rigorous ESG evaluation process.
4. Assess the Fund’s Risk Management: Evaluate the fund’s risk management strategies and how they may impact your investment. Funds with strong ESG practices often have better risk management and can be more resilient during market downturns.
5. Consult with a Financial Adviser: If needed, consult with a financial adviser to determine the best ESG fund for your investment needs. A financial adviser can provide personalized advice and help you navigate the complexities of ESG investing.

Understand the Difference Between Active and Passive Funds

When choosing an ESG fund, it’s essential to understand the difference between active and passive funds. Active funds are managed by fund managers who actively select stocks and aim to outperform the market. These funds can offer higher returns but often come with higher fees and increased risk.

On the other hand, passive funds track a specific market index, such as the S&P 500 or the MSCI ESG Index. These funds are typically less expensive and provide broad diversification. Passive funds are ideal for investors looking for a low-cost, hands-off approach to ESG investing.

What are ESG ETFs?

ETFs are baskets of stocks and bonds in which shares are purchased to reach specific objectives. ETFs are reminiscent of mutual funds in the fact that they both invest in groups of stocks and bonds; however, there are two major ways ETFs differ from mutual funds:

1. ETFs are unique since they may be bought or sold at any time during the day’s trading, as is the case with shares of stock. In contrast, mutual fund transactions may only occur once per day, at their net asset value. 
2. ETF pricing may vary depending on fluctuating market conditions during the trading period, while mutual funds are still fixed to their single static per-day rate. 

ETFs therefore provide investors with a certain degree of versatility. Yes, some are ‘passive’, meaning they are pegged to the performance of a specific index, such as the S&P 500. However, ‘active’ ETFs may be managed dynamically in response to market fluctuations, potentially outperforming pegged indices and with greater returns.

Finally, of note is that with each purchase of an ETF there is an associated cost, that being an expense ratio listed as an annual percentage. In premise, the lower this number is, the more funds will be available for either reinvestment or dividends.

You should also have the option of controlling whether any funds are automatically reinvested or paid out directly. Alternatively, fund managers can advise you on the specifics of how to build investment portfolios.

Here's a list of best-performing ESG funds for your consideration:

8 ESG Funds for 2023

To assist you in making an informed decision, here's a look at eight top-rated eco-friendly investment funds that are worth adding to your portfolio:

iShares ESG Aware MSCI USA ETF

Mirroring the performance of the greater market, this ETF follows the MSCI USA Extended ESG Focus Index, which avoids businesses that produce civilian firearms, controversial weapons, tobacco, thermal coal, and oil sands - thus strengthening its sustainability values.

This ETF, with its top holdings such as Apple, Microsoft, and Amazon, makes an ideal anchor position for those who intend to invest in sustainability without disproportionately increasing their risk level. As long as the fund meets its goal, you can expect similar returns to that of an S&P 500 Index Fund.

SPDR S&P 500 ESG ETF

The SPDR ETF is a newly created fund, though it follows the S&P 500 ESG Index, which for 10 years now has consistently surpassed the S&P 500, its ‘conventional’ counterpart, the S&P 500. 

Companies in the S&P 500 can be removed from the ESG index if they are involved with cluster weapons, land mines, chemical weapons, nuclear weapons, tobacco production, or thermal coal extraction, as will any business that ranks within the lowest 5% of UN Global Compact (UNGC) scores, which are based on a company's compliance with 10 principles laid out by UNGC that cover human rights protection, employee welfare policies and environmental standards, all of which must meet the stated anti-corruption standards.

While Apple, Microsoft, and Amazon make up the top three holdings in both this fund and the iShares ESG Aware MSCI USA ETF, they are weighted slightly higher in this particular fund.

Fidelity U.S. Sustainability Index Fund

Fidelity's sustainability index fund follows the MSCI USA ESG Leaders Index, composed of companies with exemplary ESG ratings. It also excludes any company incorporating alcohol/tobacco production or gambling activities, as well as nuclear power plants and firearms. Technology stocks take up 27% of the total value, followed by consumer discretionary (10.7%), healthcare (11.2%), communication services (13%), and financials (13%). Sector exposure is similar to the above two funds.

Vanguard FTSE Social Index Fund Admiral Shares

The Vanguard FTSE Social Index Fund Admiral Shares is a popular ESG fund that tracks the FTSE4Good US Select Index. This fund excludes companies in certain industries, such as tobacco, nuclear power, and civilian firearms. The fund also considers companies’ ESG practices and governance risks, ensuring that only those with strong ESG credentials are included.

With a low expense ratio and a long-term track record, this fund is an attractive option for investors seeking a socially responsible investment. The Vanguard FTSE Social Index Fund Admiral Shares offers a balanced approach to sustainable investing, providing exposure to companies that prioritize environmental, social, and governance factors while delivering competitive returns.

Nuveen ESG Mid-Cap Growth ETF

This fund deals with mid-sized, US-based companies that have experienced significant growth in earnings and sales per share. While it does not include Apple or Amazon, there are plenty of familiar names, such as Burlington Stores, Pinterest, Etsy, and GoDaddy. The focus on smaller yet rapidly growing firms offers investors promising opportunities.

This fund aligns with the TIAA ESG USA Mid-Cap Growth Index, which only includes organizations with excellent ESG credentials, minimal carbon footprints, and are verified to not partake in prohibited activities.

Calvert International Responsible Index Fund

With over 800 stocks from multiple countries, this fund ensures a diversified portfolio. Japan has the highest concentration of 18.5%, followed by the U.K., France, and Switzerland with 12%, 8.3% & 8.3%, respectively. 

Sustainable funds, like the Calvert International Responsible Index Fund, align with investors' values and can offer both social impact and financial advantages.

The Calvert Principles are a specific ESG methodology that limits exposure to companies that partake in gambling, weapons production for civilian use, alcohol and tobacco manufacturing, as well as animal testing. As a result of this framework, the fund invests in corporations such as Taiwan Semiconductor Manufacturing, Nestlé, and Roche.

Pax Ellevate Global Women's Leadership Fund

This fund invests in companies that actively foster women's progress in the workplace, by promoting gender diversity at all levels of management and staff, striving for equal pay among genders, and hiring and training more female employees for greater retention.

Boasting a portfolio of over 400 large-cap stocks, with the majority (68%) being US-based organizations, this fund's top holdings include Microsoft Corporation, Amazon Inc., and Estee Lauder Companies Inc. 

iShares ESG Aware MSCI EM ETF

Invest in this iShares ETF and gain access to ESG-screened exposure to emerging markets! With its objective of providing returns within 100 basis points of unscreened indexes, while favoring companies with higher environment, social, and governance scores, you can enjoy a portfolio including over 350 large-cap and mid-cap stocks from countries such as China, Taiwan, and South Korea, India, South Africa, Brazil, and Russia.

The fund is heavily weighted towards financial companies, making up approximately 23% of its value. Technology stocks follow in second at 21%, with the rest of the top-five sectors comprising consumer discretionary, communications, and materials.

iShares ESG Aware 1-5 Year USD Corporate Bond ETF

This fund holds US dollar-denominated investment-grade corporate bonds ranging from 1 to 5 years of maturity, and follows the Bloomberg MSCI US Corporate 1-5 Year ESG Index, which includes issuers with top-ranked MSCI ESG scores within their market sectors. As customary with other iShares funds, companies actively involved in civilian firearms or controversial weapons production, tobacco products, or thermal coal mining and processing, as well as oil sands extraction, are excluded.

Takeaway

While ESG-focused companies have seen remarkable growth in return over the long term, they have also proven more resilient during market contractions than other stocks on the S&P 500 index. 

For beginner ESG investors, index exclusion funds that track the S&P 500 have been proven to deliver strong returns that closely match those of their benchmark. With more concern about climate change, social justice issues, and governance practices, this sector will continue to grow as these issues become the ‘normalized’ concerns of the global business environment. 

Consider ESG ETFs as an effective method to align investment goals with the transition to sustainability, social equity advancement, and improved corporate governance.

Find out more about ESG Ratings here, and follow individual performers via our Company ESG Profiles.