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What is ESG investing?

ESG investing is a strategy that considers environmental, social, and governance factors when selecting investments. 

Rather than focusing solely on financial returns, ESG investing also evaluates how companies manage risks and opportunities related to:
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• Environmental impact (e.g. carbon emissions, waste management, energy efficiency)
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• Social practices (e.g. employee treatment, community impact, supply chain ethics)
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• Governance structures (e.g. executive pay, board diversity, shareholder rights)

While financial performance remains important, ESG investing applies an additional layer of scrutiny to assess whether a company acts responsibly and sustainably.

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How ESG investing works

At its core, ESG investing uses specific non-financial criteria to screen or select investments. This can be done in several ways:
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• Positive screening: Choosing companies that score highly on ESG factors
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• Negative screening: Excluding companies that operate in controversial industries (e.g. tobacco, fossil fuels)
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• ESG integration: Incorporating ESG analysis alongside traditional financial metrics
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• Thematic investing: Focusing on specific ESG-related themes like clean energy or gender diversity
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• Engagement and stewardship: Actively engaging with companies to encourage better ESG practices

Many fund managers and platforms now offer ESG-labelled products, often relying on third-party ESG ratings to guide decisions.

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An example of ESG investing

Imagine an investor wants to support the transition to a low-carbon economy. Instead of buying shares in a traditional energy company, they invest in a fund that holds companies developing renewable energy technologies, such as wind or solar power.

At the same time, they may avoid companies with poor track records on pollution or that are heavily reliant on coal production.

This kind of decision reflects an ESG mindset, considering not just potential returns, but the broader impact of each investment.

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Advantages and Disadvantages of ESG Investing

Advantages of ESG investing include:
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• Alignment with values: Investors can support causes they care about without sacrificing financial goals.
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• Risk management: Companies with strong ESG practices may be better positioned to handle long-term risks.
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• Growing demand: Interest in ESG is increasing, which may drive innovation and market opportunities.
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Disadvantages of ESG investing include:
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• Inconsistent ratings: ESG scores can vary between providers, leading to confusion.
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• Greenwashing: Some companies may overstate their ESG credentials without meaningful action.
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• Limited track record: While ESG funds have grown, long-term performance data is still evolving.

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ESG metrics used

Measuring ESG performance involves analysing both qualitative and quantitative indicators. Common metrics include:
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• Carbon emissions and energy usage (Environmental)
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• Workforce diversity, employee turnover (Social)
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• Board independence, executive compensation (Governance)
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These metrics are typically aggregated into an ESG score by third-party rating agencies. However, scoring methods vary, making it important for investors to look under the surface rather than relying on a single number.

In the UK, regulatory bodies like the Financial Conduct Authority (FCA) are working to improve transparency and standardisation in ESG disclosures, but this remains a developing area.

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How ESG differs from sustainable investing

While ESG and sustainable investing often overlap, they’re not identical. ESG investing focuses on how environmental, social, and governance risks and opportunities affect a company’s performance and, in turn, an investor’s returns.

Sustainable investing prioritises broader long-term goals, such as promoting a more sustainable future, even if the financial returns take longer to materialise.

In simple terms, ESG is often about risk and responsibility, while sustainable investing is more explicitly mission-driven.

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Other considerations for UK investors
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• Regulation and Disclosure. The UK has committed to making climate-related financial disclosures mandatory for many large companies and asset managers. This is intended to help investors make more informed decisions and reduce the risk of greenwashing.
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• Tax and Investment Wrappers. As with any investment, ESG assets can be held in ISAs or SIPPs, offering potential tax advantages. However, ESG status doesn't inherently make an investment more or less tax-efficient.
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• Due Diligence is Key. Regardless of ESG labels, it’s important for investors to review the fund’s holdings, strategy, and costs — and ensure it aligns with their personal goals and risk tolerance.

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The bigger picture of values-based investing

ESG investing offers a growing range of options for UK investors who want to align their financial decisions with their values.

It’s not about choosing between returns or responsibility, but about understanding how both can work together when guided by thoughtful analysis.

As ESG awareness matures, many investors are exploring even more focused strategies, like thematic investing, which allows you to back specific trends or ideas (such as clean tech, water security, or ageing populations).

Next in this series: Fractional Shares: Investing in Pieces — where we’ll explain how fractional investing works, and how it’s opening up access to markets for beginners.

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When investing, your capital is at risk. The value of your investments can go down as well as up and you may get back less than your original investment. Chip does not offer financial advice and this should not be considered as a personal recommendation. Diversifying means spreading your investments across different sectors, countries and asset classes.