What is Green Investing?

Posted on Friday, April 5th, 2019 MarketBeat Staff

Summary - In the past 15 years, a movement that started over concerns about global warming, climate change, and renewable energy has blossomed into a green energy movement. Not surprisingly, both institutional investors and individual investors are looking to find ways to make green investing a part of their portfolio. This is particularly true among millennials who represent the largest generation of investors ever.

But what is green investing? While frequently lumped in with a broader category known as “socially responsible investing” or SRI, green investing is more narrowly focused on the companies and technologies that are dedicated to conserving natural resources, producing and discovering alternative energy sources, and/or implementing clean air and water projects.

Green investing, however, is somewhat defined by the individual investor with some investors having a much broader definition of what a green investment may be. Some of these investors will even allow for environmentally conscious oil companies to be a part of their portfolio even though these companies burn fossil fuels.

As demand for green investing options has grown, the supply of mutual funds, ETFs, bond funds and other financial instruments has also increased. According to Morningstar, there were over 200 funds for socially responsible investing at the end of 2017. These funds held over $100 billion in assets.

Green investing, while increasing in popularity is not without risk. In fact, because many of these companies are on the leading edge of this technology the company may have yet to turn a profit and may be overvalued. Investors should be careful to read the portfolio for these companies carefully to decide if the company matches their risk tolerance.

Introduction

No matter where you stand on the ideological spectrum, it’s hard to ignore concerns about climate change and a desire among corporations, households, and governments to find new, lower cost sources of energy. This has led to a “Green Technology” movement that has now grown into a trillion dollar industry.

One of the key elements fueling this movement is the trend towards socially responsible investing (SRI). Socially responsible investing is particularly popular among millennials who now represent the largest generation of investors ever.

In fact, according to Morgan Stanley’s Institute for Sustainable Investing’s 2017 Sustainable Signals report, millennial investors are two times as likely to include socially responsible investments as part of their investment strategy. In fact, nearly 90% of millennial investors say they are interested in SRIs and 90% want SRIs as part of their 401k plans.

And green technology is one of the key components of that investment strategy. 

This article focuses on green investing including its key role under the umbrella of socially responsible investing. We'll break down what is meant by pure-play green investing and we'll review how green investing fits into an SRI portfolio.

What is green investing?

Green investing is an investment strategy that focuses on companies and financial instruments, such as mutual funds, ETFs and bond funds that have as their underlying assets companies or projects committed to the conserving natural resources, producing and discovering alternative energy sources, implementing clean air and water projects. Many of these companies also engage in environmentally conscious business practices.

What makes an investment a “green investment” can vary among investors. Many investors strictly interpret green investing to mean companies that are pure-play options. These are companies that generate most if not all of their revenue and profit from green activities. This includes companies that perform research for or manufacture products such as renewable fuels and energy-saving technology.

Other companies that are considered “green investments” may have other lines of business, but make green-based initiatives or product lines a focus of their business. This is reflected in business practices that demonstrate a commitment to environmentally responsible use of natural resources and managing waste to reduce their carbon footprint.

Still, other green investors may be comfortable investing in companies in an "ungreen" industry that are recognized for their leadership in using environmentally conscious business practices. An example would be an oil company which, while burning fossil fuels, can also be using environmentally sound practice to limit the direct damage their operations cause to the environment.

What are popular green investing opportunities?

The issue of “going green” goes beyond global warming and climate change. Being a responsible steward of the environment is something that companies are realizing has economic advantages. Here are some of the top areas that are considered green investing opportunities.

  • Green Power– this category is what is most often thought of as green investing. These pure-play green investments focus on the green infrastructure (i.e. power generation that does not rely on burning fossil fuels). This category includes companies engaged in water, wind and solar energy.
  • Pollution Controls– this category is focused on reducing greenhouse gas emissions from industrial power plants and minimizing emissions that come from sources like automobile exhaust systems.
  • Transportation– when investors think about this category, it's natural for Tesla to come to mind, but in fact, there are a number of players here including companies that manufacture fuel cells.
  • Waste Reduction – this category is broadly about recycling which has become a big business for waste management companies who are looking to find ways to reduce landfill deposits.
  • Organics– this category is focused on the organic farms that do not use pesticides, engage in sustainable farming. Whole Foods Markets is one example of a company that has made consumers more aware of where their food comes from.
  • Aquaculture– this category like organics focuses on sustainable practices – this category is about sustainable fishing that is bringing to light how the world’s overfished oceans are impacting our food chain.
  • Geothermal– this category is a subset of green power. Geothermal energy companies look for ways to use heat from the earth to develop clean energy.

What options do investors have to build a green portfolio?

As demand for green investing has increased, so have the number and types of financial products that identify themselves as "green investments". In addition to buying stocks of individual companies, investors can choose from a range of mutual funds, ETFs, and green bonds. Some of the more popular green mutual funds include the TIAA-CREF Social Choice Equity Fund which is a fund that attempts to match the return of its benchmark Russell 3000 index and the Green Century Balanced Fund (GCBLX) is an actively managed growth and income fund that has a dual focus of generating income through dividend-paying companies and modest capital gains through stock price increases. It typically has an investment mix of 60-75% multi-cap stocks (large-cap, mid-cap, small-cap) and 25-40% bonds. 

How does green investing fit with socially responsible investing (SRI)?

Socially responsible investing is an umbrella for an investment strategy that promotes not only green investing but other forms of social and societal concerns including affordable housing and gender diversity. Green investing is as a specific subset of SRI. By definition, all green investing companies would fit into an SRI portfolio. However, not all SRI companies would be considered green investments.

According to Morningstar, this demand for SRIs is being met with an increasing supply of green investing options. At the end of 2017, there were 234 mutual funds and exchange-traded funds (ETFs) that fit into the environmental, social and governance categories. That number is more than twice the number of funds offered in 2012. However, more importantly, assets within those funds have increased 142% in that same time frame and at the end of 2017 were just over $100.2 billion.

Investing in green technology is one component of socially responsible investing. A typical SRI portfolio may include an asset mix with components such as:

  • Affordable housing -29.7%
  • Low carbon – 29%
  • Local initiatives – 20.3%
  • Gender diversity – 7.8%
  • Socially responsible – 7%
  • Clean tech – 6.2%

Affordable Housing– this category focuses on fixed-income investments such as residential mortgage-backed bonds that promote affordable housing.

Low Carbon– this category takes into account the concern about the impact of climate change and global warming on the economy and the planet. The stocks selected have a “lower carbon exposure” and are less dependent on fossil fuels. This category would include tech companies like Apple and Facebook, financial services companies like JPMorgan Chase and Bank of America, and electric car maker Tesla.

Local Initiatives– this category focuses on local and municipal bond issuers that fund or invest in communities that are tackling environmentally friendly projects such as improving water systems, power generation, and land conservation.

Gender diversity– this category allows investors to invest in companies that apply a “gender lens” regarding women’s advancement in the workplace. One of the criteria for stocks in this category relates the number of women on a company’s board of directors and top executive positions. In fact, some funds will exclude any companies that don’t have at least one woman on their board or as CEO.

Socially responsible– this category focuses on stocks of companies that exhibit positive environmental, social and governance characteristics. This means that alcohol, tobacco, gambling, firearms, and adult entertainment stocks, among others, are not part of this category. Procter & Gamble and Walt Disney and Microsoft are examples of companies that fit this category. 

Clean tech – this category includes clean energy initiatives such as companies that are involved in solar, wind power and metal recycling. Some companies that may be included in this category are Umicore, which focus on emission abatement in vehicles and wind turbine manufacturers, Vestas and Siemens.

What caution should investors take regarding green investing?

Green investing does include a higher risk tolerance than some investors may desire. This is because, although the sector is growing in popularity, it is still considered a nascent industry. Many companies, for example, are still in the development stage of their business cycle. As an investor, this means low revenues and high valuations. This is why some green investors will look to build a portfolio of SRI stocks and funds. This provides opportunities to broaden the scope of their investments and achieve the financial returns needed to meet their financial goals while still being true to their investment strategies.

Some companies will position themselves as “green investors”, but they either will not follow through with their initiatives or they will not fit an individual investor’s personal definition of green investing. Investors should always take care to read the prospectus as part of their research on a company or fund.

The bottom line on green investing

Green investing has become more than just a fringe cause. It's a big business. And there are many investors that are demanding green investing opportunities as part of their wealth management portfolio.

Green investing focuses on the companies that are committed to conserving our planet’s natural resources, discovering or producing alternative and renewable forms of energy, or working to ensure a clean supply of air and water. These companies would be considered pure-play green investments. Other companies are not directly involved in green technologies, but they engage in environmentally conscious business practices. Still, other companies may not be considered "green" but still show a commitment to environmental leadership within their industry. Some oil companies may be an example of this.

Green investing is a subset of a broader investment management strategy that focuses on socially responsible investing (SRI). SRI stocks and funds are particularly popular among millennials who are now entering their peak investment years. These investors are actively looking to invest in companies that make environmental and social issues such as gender equality a priority.

Like all investments, green investing is not without risk. In fact, because of the still-developing nature of the technology, green investing can carry more risk for an investor's portfolio. Another risk that investors have is that some companies will label themselves as green even though their business practices do not support their proposed mission.

 

 

 

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