Transcript:
Easan Arulanantham:
So our next questions is kind of on ESG investing. So environmental, social and governance, governance investing. I heard that ESG investing, I will underperform the market. Is that true? Like, I want to be a responsible investor, but I don’t really want to put myself behind because of it.
Tom Vaughan:
Yeah. So what they’re doing here is this, this is the old socially responsible investing, they’ve had a lot of different names impact investing, there’s a whole bunch of things, but the new concept is now called ESG. And, you know, so how does the company handle the environment is the he has a company handle the, you know, the social portion, which would be the employees, the community that they’re in? And then the governance really, you know, what’s the board look like? How does that company run in terms of a governance standpoint, and they rank all these companies now. And they can put these companies together just based on the ranking and these big baskets, you can buy them in an exchange traded fund, and we have ESG portfolios. And so that, in the old days, what was happening was that the only way you could get socially responsible investing was through a mutual fund. And you had a manager who had to dig through all of these factors to try to figure out whether that company should be in the portfolio or not. And now what’s happened is we have these big companies giving ratings to all of the companies that are out there, almost all the companies that are out there. And so it’s much, much cheaper to put that basket together just using those ratings. And that’s a big difference.
And then now we’re using exchange traded Fund, which are generally cheaper than the mutual funds also. So it used to be that was socially responsible investing, that we saw lower rates of return, because the expenses were higher, you know, so in other words, if I have one portfolio, my traditional model over here that has a quarter percent internal cost, versus say, you know, the old social responsible investing model that cost one and a quarter percent internal cost, it’s gonna be hard, long term to beat that traditional model with a 1% less internal costs. Now the internal cost differential is almost negligible, it’s in some cases, it’s basically zero. And so that made a huge difference. And it also then allowed for more cash flow to come in. So we’re starting to see, you know, lots of money coming to, you know, a lot more money than there used to be coming into these Exchange Traded Funds. And so they’re being focused on these stocks that have good ESG ratings. And so what we’ve seen, at least you know, in our business, the ESG, is holding its own. It’s been, you know, above the traditional slightly below it, but I would not say that you are going to be making less, I would say, actually, if there is a gas coming up here, you might be making more in the ESG. side, it’s one of the reasons why we put two giant pieces of ESG in our traditional model, which have been working out pretty well, too.
But one of the things that is important to understand when you look at kind of the screening that they do in ESG, a lot of companies that have higher ratings, better ratings are a lot of growth related companies. And so overall growth has been outperforming right, you know, there’s some value been doing a little bit better this year. But if you look over the last 10 years growth is outperforming So in a way, what’s happening with ESG has a lot to do with how growth is going to play out as a whole. So, but now you can get a very diversified portfolios, in my opinion, and have a nice situation. And at least in the last two or three years here in the portfolios that we’ve been managing, we haven’t seen a drop off and return really at all. In some cases, it’s outperformed our traditional models. So it’s a good question. It’s a question that gets asked all the time, you get a lot of people that are traditional investors, and they’re just barely kind of ESG investors and they really don’t want to go there. Because they’re afraid they’re going to make less money. The rest of the people that aren’t ESG investors are there just because of their belief system, they don’t want to invest in these other companies, they want something cleaner, in essence, and that’s okay, too. And that’s that’s been a big part of our practice. So I would definitely not discount ESGs.
Easan Arualanantham:
So going off of that, you talked about how ESG is kind of lean towards growth. Is there a way to kind of protect myself when I if I were you? Yes, you investing so I don’t kind of over way growth too much and kind of lose out on value too.
Tom Vaughan:
Yeah, that gets to be a little bit difficult because of the fact that you do have a screen in place and that screen. So for example, software companies like Microsoft Word Have, you tend to be very highly rated because they really don’t have a huge impact on the environment, for example, and whatnot. And they’re not they don’t have factories and child labor, you know, and these different things. And so you could end up with a concentration of, say, software companies, and not some of the other things on the value side. And value generally has a lot of kind of older industry, which doesn’t have as high of a rating. One way you can do that is to buy these more broad based ESG portfolios. Like, for example, Vanguard has the total stock market index, which is VTI, right, so that’s the, that’s the broad market. And now they also have that same index, where they apply ESG screen to all of those stocks. And that does pretty well, even in, in value run, it’s not as tight on the ESG side.
So just depends on what your thought is, I have a lot of clients who don’t care about the return as much as they care about the environmental impact. And that’s, that’s those clients have been in social responsible from the beginning back in the 80s, when I started, and they knew they were going to make less money, they didn’t care. And so they’re still okay, even if it doesn’t have the value in the balance, but those people that are kind of in between, that’s where you can create a little bit more broad based ESG portfolio will incorporate a bit more value into it because they’re kind of lowering the standards a little bit. So anyway, there are ways to do it in that regard. And, you know, so it’s, it’s just a matter of, you know, kind of getting out there and figuring out how to structure that, that that portfolio correctly and it’s worked out really well. So far.