Why ESG investing is more than a fad

The tide has shifted: investors are setting new benchmarks, favouring businesses that prioritise sustainability at their core.

Far from being a passing trend, environmental, social, and governance (ESG) investing signals a seismic shift in how businesses are valued in the modern market.

Australian and New Zealand companies are more profoundly aware of their corporate responsibilities and reputation than ever before.

ESG considerations continue to increase in importance as part of the equation when making investment decisions.

In Australia, the responsible investment market has expanded to a staggering $1.6 trillion in 2023, setting the stage for further growth in 2024 and 2025.

This upward trend is mirrored in New Zealand, where sustainable funds have bucked global trends, experiencing consistent positive inflows since late 2021.

This means integrating ESG principles is a must for staying competitive and appealing to discerning investors.

So, what exactly are investors looking for when they scrutinise a company’s ESG credentials, and why does it matter to your business? Let’s break it down.

ESG factors provide a complete picture.

For investors, ESG analysis goes beyond the bottom line to uncover deeper insights into a company’s risks, opportunities, and resilience.

ESG considerations complement traditional financial metrics, helping investors:

• Identify risks: Factors like climate change, regulatory shifts, and social unrest can significantly impact a company’s operations and profitability.
  
  
• Spot opportunities: Companies that lead in sustainability also lead on innovation, have better market access, and excel operationally. The same diversity of thought that drives ESG enhances businesses to tap into emerging markets, make use of novel technologies, or drive differentiation.
  
  
• Enhance resilience: Businesses with strong ESG practices are better equipped to navigate disruptions and maintain stakeholder trust.

For example, the fallout from poor ESG practices can be devastating. Remember the reputational damage Nike faced in the 1990s due to child labour allegations? The public backlash slashed revenue by nearly 50% in 1998. In contrast, companies proactively addressing ESG issues are seeing better financial performance and investor confidence.

Why ESG matters to investors.

Investors are increasingly aware that ESG factors can make or break a company’s success. Here are the key reasons ESG investing has taken centre stage:

• Risk mitigation: ESG analysis helps investors anticipate and mitigate risks. For instance, companies unprepared for stricter environmental regulations may face fines or operational disruptions. By contrast, those already aligned with ESG goals are positioned to adapt seamlessly.
  
  
• Financial returns: Studies consistently show that ESG-aligned portfolios deliver robust returns. The iShares ESG Aware MSCI USA ETF, for example, has outperformed traditional benchmarks over the past five years.
  
  
• Market demand: ESG is no longer a niche market. Global ESG assets under management reached $29.86 trillion in 2024, up from $25.13 trillion in 2023. This growth trend is expected to continue, with some estimates projecting ESG assets to reach between $35 and $50 trillion by 2030.
  
  
• Long-term value creation: Businesses prioritising ESG principles often cultivate stronger customer loyalty, employee satisfaction, and regulatory compliance. These attributes translate to sustained value creation for shareholders.

The cost of ignoring ESG.

Companies that dismiss ESG considerations risk falling behind their peers. The financial and reputational costs of neglecting ESG can be staggering.

There have been instances where backlash against ESG-aligned investments has resulted in suboptimal financial outcomes. For example, resistance to ESG principles in the coal industry has led to capital flight, with significant Australian superannuation funds, such as AustralianSuper and HESTA, divesting from fossil fuels.

This has created a domino effect, leading to reduced access to capital for coal-dependent firms and higher borrowing costs.

Additionally, companies that lag in ESG performance face mounting reputational risks and potential loss of market share, as seen with some energy firms failing to meet investor demand for credible net-zero transition plans.

This demonstrates how anti-ESG policies can result in inferior financial outcomes, reinforcing the importance of integrating sustainability into business strategies.

On the flip side, ESG-aligned businesses not only attract investment but also foster innovation. NAB's commitment to sustainability, for instance, has positioned it as a leader in Australia’s transition to a low-carbon economy, while also boosting investor confidence.

What investors expect from companies.

Investors are looking for clear, actionable ESG strategies that demonstrate accountability and transparency. Key attributes include:

• Measurable impact: Investors want companies to set tangible goals, such as achieving net-zero emissions or increasing diversity in leadership roles.
  
  
• Credible reporting: Robust ESG reporting frameworks like the Global Reporting Initiative (GRI) or Task Force on Climate-Related Financial Disclosures (TCFD) help investors track progress.
  
  
• Proactive engagement: Companies engaging stakeholders — from suppliers to communities — are seen as forward-thinking and responsible.

A recent survey by Morningstar revealed that 67% of asset owners see ESG as increasingly important, with many allocating significant portions of their portfolios to ESG strategies.

What this means for your business.

To secure investment and ensure long-term growth, the numbers clearly highlight a simple truth: companies must align their strategies with sustainability principles and demonstrate a commitment to ESG practices. Here are some key points to achieve it:

• Integrate ESG into core strategy: Build sustainability into your operations, from supply chain management to product development.
  
  
• Enhance transparency: Regularly publish detailed ESG reports that highlight progress, challenges, and future plans.
  
  
• Engage stakeholders: Collaborate with investors, employees, and customers to align on ESG goals and foster trust.

Embracing a forward-thinking ESG strategy does more than attract investment; it positions your business as a leader in creating a sustainable, equitable future while safeguarding its long-term success.

Key highlights of ESG investment growth.

Australia's ESG integration.

• 99% of financial market respondents now integrate ESG principles into their investment framework.
  
  
• The Australian Government's Sustainable Finance Roadmap, released in June 2024, is set to accelerate sustainable finance initiatives.

New Zealand's sustainable fund surge.

• Total assets in New Zealand sustainable funds have more than tripled from NZD 1.5 billion in Q3 2021 to NZD 5.4 billion in Q3 2024.
  
  
• Responsible investment funds in New Zealand overtook traditional funds for the first time, reaching a record $183 billion in 2022.

Collaborative efforts.

• Australia and New Zealand have announced collaboration on sustainable finance taxonomies, product labelling, and transition planning.

Investor sentiment.

• In New Zealand, 54% of investors would consider funds aiming for positive impact if returns are comparable to benchmarks.

This impressive growth in ESG investment across Australia and New Zealand demonstrates a clear shift towards more sustainable and responsible financial practices. As regulatory frameworks evolve and investor awareness increases, the region is poised to become a leader in sustainable finance, driving positive change through the power of investment.

Align with ESG or fall behind. 

Investors are seeking companies that demonstrate resilience, innovation, and accountability through strong ESG practices. For businesses, this presents a challenge and an opportunity: take action now, or risk being left behind.

And as the data shows, aligning with ESG principles leads to better outcomes for everyone involved.

So, where does your company stand on ESG? It’s time to act and make sustainability a core part of your value proposition.