ESG — Environmental, Social, Governance
What is ESG? Explanation of environmental, social and corporate governance criteria in context of investing and company evaluation.
Quick Answer
ESG stands for Environmental, Social, Governance — a set of non-financial criteria used to evaluate companies and investment funds across three pillars: environmental impact (emissions, resource use), social practices (working conditions, diversity, data protection) and governance quality (board independence, transparency, anti-corruption). Ratings are assigned by agencies like MSCI, Sustainalytics and S&P Global, with MSCI scaling from AAA (leader) to CCC (worst). In the EU, the SFDR regulation classifies funds into Article 6, 8 and 9. ESG scores show how well a company manages non-financial risks. This is educational information, not investment advice.
What is ESG?
ESG is an acronym for Environmental, Social, Governance. It's a set of non-financial criteria used to evaluate companies and investment funds.
Three pillars of ESG
Environmental
Assessment of company's impact on natural environment:
- CO₂ emissions and carbon footprint
- Water and energy consumption
- Waste management
- Biodiversity protection
Social
How company treats people:
- Working conditions and safety
- Diversity and inclusion
- Relations with local communities
- Customer data protection
Governance
Quality of company management:
- Board independence
- Executive compensation transparency
- Anti-corruption policy
- Minority shareholder rights
ESG in investment practice
ESG ratings are assigned by agencies like MSCI, Sustainalytics and S&P Global. MSCI scale: AAA (leader) to CCC (worst). ETF funds with ESG filter exclude companies with low ratings or weight them lower in portfolio.
In European Union, SFDR regulation (Sustainable Finance Disclosure Regulation) divides funds into:
- Article 6 — no special ESG approach
- Article 8 — promotes ESG characteristics
- Article 9 — has specific sustainable development goal
ESG and financial performance
Contrary to concerns, companies with high ESG rating don't achieve worse results. Research indicates positive or neutral correlation with financial performance — partly because good ESG risk management reduces probability of scandals, regulatory penalties and reputational losses.
How Freenance can help
Freenance allows tagging investments in portfolio as ESG and tracking what percentage of your wealth meets sustainable development criteria. You build portfolio aligned with values — without losing control over results.
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FAQ
What does ESG actually score?
ESG ratings evaluate a company across three pillars: environmental impact (emissions, resource use), social practices (labour standards, diversity, data protection) and governance quality (board independence, transparency, anti-corruption controls). The score reflects how well a company manages non-financial risks, not whether the stock will rise.
How does the MSCI ESG rating scale work?
MSCI rates companies on a seven-step scale from AAA and AA (leader) through A, BBB, BB, B down to CCC (laggard). The grade reflects relative performance versus industry peers on the ESG risks most material to that sector, so a bank and a miner are not judged by identical metrics.
Does ESG investing mean lower returns?
Long-term studies suggest a neutral to slightly positive correlation between strong ESG scores and financial performance. Better governance and risk management can reduce the likelihood of scandals, fines and stranded assets, though no methodology guarantees outperformance over any specific period.
What is the difference between SFDR Article 8 and Article 9 funds?
Article 8 funds promote environmental or social characteristics alongside financial goals, while Article 9 funds have sustainable investment as their explicit objective. Article 6 funds make no specific ESG claims. The classification is a disclosure rule under EU law, not a quality ranking.
How is ESG different from SRI or impact investing?
ESG integrates non-financial criteria into mainstream risk analysis, SRI typically applies negative screens to exclude entire sectors such as tobacco or weapons, and impact investing targets measurable positive outcomes alongside returns. The three approaches overlap but answer different investor questions.
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