How to Think About E.S.G. Investing in a Falling Market

Any time the stock market falls, investors are likely to rethink nearly everything.

The current gut check comes at a point in the evolution of the investing industry when assets in so-called E.S.G. funds have risen 38 percent in the past year, to $2.7 trillion by the end of March, according to Morningstar Direct. Professionals overlay all manner of rules and screens for the investments they pick, using climate, diversity or other data to construct what are now over 6,000 funds worldwide.

There is a cost for consciousness: The funds often have high fees that can reduce returns if the investments don’t do better than whatever alternatives you reject. And there’s a fair bit of confusion about what the term E.S.G. — short for environmental, social and governance — means in practice.

That can lead to episodes like one last month when Elon Musk called the entire industry a “scam,” after S&P Global had the temerity to remove Tesla from an E.S.G. index. S&P did this, it said, in part because of accusations of racial discrimination and other worker mistreatment.

Meanwhile, the Securities and Exchange Commission is frantically trying to catch up, investigating Goldman Sachs and other big banks and questioning whether some are slapping E.S.G. labels on funds that may not deserve them to make a grab for investor assets.

To try to help everyday investors make sense of this, I turned to two professionals who have spent a fair bit of time vetting wannabe E.S.G. investments.

The first is Amy Domini, 72, the founder and chair of Domini Impact Investments and a pioneer in the E.S.G. field. The second is Rachel Robasciotti, 43, the founder and chief executive of Adasina Social Capital, which describes itself as an “investment and financial activism” firm.

Here’s what they had to say.

RON LIEBER: What’s the most accurate definition of E.S.G. today, and how has it changed?

AMY DOMINI: Before we start, is that the preferred vocabulary? When I got started it was “ethical investing,” but I’ve lost so many vocabulary fights in my life.

I view it as providing a more robust set of material data points from which an investment adviser can make a decision.

And I view it as fulfillment of a fiduciary obligation. Assets aren’t being managed to the greatest interest of beneficiaries if, in fact, they can’t breathe or life is too dangerous at the end of their wealth building. So I see it as a means to an end, and that end is a planet that is livable — and lives worth living. And I see it as a strategy that explicitly acknowledges that investors have a role to play in providing these outcomes to the world.

LIEBER: Rachel, you were familiar with Amy’s funds. Did you come to a different conclusion?

RACHEL ROBASCIOTTI: We call our work “social justice investing.” It’s the deep integration of four areas: racial, gender, economic and climate justice.

LIEBER: Defining justice seems messy these days. On one hand, some investors don’t want to invest in weapons manufacturers. On the other, many of them would very much like to put more weapons in the hands of the Ukrainians.

ROBASCIOTTI: In the world our investors want to live in, the government is responsible for weapons and defense, and that is not a private activity.

LIEBER: Wait, so the government should be producing weapons?

DOMINI: Capitalism is great at distributing goods and services broadly and cheaply. Weapons shouldn’t be distributed broadly and cheaply.

LIEBER: Academics have been talking for years about how so-called active investing is a bad idea — that it’s just too hard to actively select the stocks that will do better than others over the long haul. Doesn’t E.S.G. investing violate these principles?

ROBASCIOTTI: In order to do a good job of social justice investing, you have to be active on those issues and pay attention when a company’s behavior shifts in a way that has a real, material impact on its future.

DOMINI: Take Square. They had an arguably strong story for empowering small-business owners, a strong economic justice theme that you could get excited about. As they became more and more of a blockchain company — to the point where they changed their name, that initial exciting thesis became less and less present.

LIEBER: Maybe it’s better for curious investors to play with the word “active” then, and think of E.S.G. as activist investing. If someone is going to pay the higher-than-average fees — or at least the higher-than-basic-index-funds fees that firms like yours charge — it shouldn’t just be to move money around silently from one public company to another in a way that may not have much impact. Activists bring pressure. They make noise.

DOMINI: We wrote 150 companies in Japan, pointing out that there were two genders and their boards didn’t reflect that fact. Japan doesn’t have robust shareholder resolution opportunities, but that doesn’t mean you can’t have some activism.

LIEBER: We’re in a bear market now. That’s often a time when people look to cut costs in their investment portfolios. There’s a long history of hand-wringing in the investment industry about the fact that your funds are not cheap. Do you lose in these kinds of market conditions?

DOMINI: You have E.S.G. products now at Vanguard, Fidelity, TIAA. They’re all doing it because it adds value to the investment decision-making process. That doesn’t go away. It’s here to stay.

ROBASCIOTTI: Historically, women, people of color — particularly Black people like myself — weren’t allowed into the industry. And now that we’re starting to emerge, we’re in a situation where we have this enormous price pressure. “Bring your fees down!”

Organizing, mobilizing, educating other investors, putting together data sets — all of that takes people. You have to be able to invest in them.

So I would really question if someone is delivering impact at a really low price point. Many, many, many times with cheap E.S.G., you could hit a data wall and stop. And what we’ve done is break down the data wall.

LIEBER: OK, but do you always trust the data that you get from companies themselves — the raw numbers or the way they might be selectively counting things?

ROBASCIOTTI: We use less of the data that companies provide on their own. Data gathered independently by third parties who are verifying it with public companies’ practices is what we really lean on.

LIEBER: Elon Musk would beg to differ on the value that E.S.G. adds. How would you try to persuade him in 100 words or less?

ROBASCIOTTI (chuckling): Here’s what I’d say: The reason that you’re confused is because you’re a single-issue C.E.O., and that’s not the way of the future. The way of the future is people and planet, and a fractured society can’t make anything, including electric cars.

DOMINI: He went after my industry instead of going after the index that excluded him. The whole industry didn’t throw him out.

LIEBER: Individual investors face scores of E.S.G. choices. Goldman Sachs and others hope that familiar names will matter. What’s the correct framing question that individuals should ask when fund shopping?

ROBASCIOTTI: There’s actually three. The first is, what are your issues? To us, those are racial, gender, economic and climate, because those are the places where capitalism extracts value unsustainably.

Then, how are you measuring it? And the most important question, beyond a shadow of a doubt, is who decides what matters? Go to the people who are most impacted and ask them what is significant, because they’re closest to the problem and often farthest from the power. And that’s information that investors are not currently getting.

LIEBER: What’s the most nonobvious example of this third one?

ROBASCIOTTI: When we went to the Poor People’s Campaign and asked what we should be focusing on, they led us to working with One Fair Wage, which is working to eliminate subminimum wages for tip workers.

We created a whole “Investors for Livable Wages” campaign and had a collective investor statement that represented over half a trillion dollars of investor money, via the signers, making the case for all public companies ending subminimum wages.

LIEBER: This all feels like a lot of work for the investor. Where’s my interactive tool that allows just one of the many funds to fall out as my best choice?

DOMINI: I feel that a step is better than not taking a step. I’m not totally hung up on who does a better analysis, or an analysis that is consistent with my own analysis. I’ve looked at so-called strict portfolios that have stocks that I wouldn’t put in my portfolio.

LIEBER: So this analysis paralysis is my problem — this isn’t the industry’s problem?

DOMINI: I like women-owned firms, if you want to start with something!

ROBASCIOTTI: Just 1.4 percent of all assets at U.S.-based firms are managed by firms owned by women or people of color. So you can narrow your universe right there.

The reason why that matters is that doing it the way we’ve always done it has given us the world we have now. If we’re going to have a different world — if we are going to invest in making more of what we actually want — we’re going to have to choose a different set of people who haven’t yet been at the table.