When it comes to socially responsible investing, the environment is at the top of investors’ minds.
There are different ways to invest in green stocks, such as buying individual companies, green-focused exchange-traded funds and mutual funds that hold green stocks.
No matter what vehicle you choose, you must look beyond a company’s marketing material or a fund’s name to ensure you don’t fall for “greenwashing.”
Greenwashing makes something appear environmentally friendly when, in reality, it really isn’t. That’s true for consumer products as well as investments.
Will Oulton, global head, responsible investment at First State Investments in London, says there’s no easy, definitive way for retail investors to tell if a stock is really green because sustainability definitions differ. As interest in environmental, social and governance investing increases, there’s always the risk companies or fund managers may make unsubstantiated claims, and it’s something his firm is seeing, too.
Investing in green stocks takes extra due diligence. To avoid getting greenwashed, experts say investors must research a company’s revenues and business model to know how exactly it makes its money. This may lead investors to some unexpectedly green buys.
If buying green stocks is something you’re considering, here are some points to keep in mind:
- Evaluating environmental stocks and other investments.
- Green investing is evolving.
- Reviewing a company’s green transition.
Evaluating Environmental Stocks and Other Investments
When it comes to green funds, retail investors or their advisors can use some evaluation tools, Oulton says, such as Morningstar’s sustainability ratings.
These ratings give users a snapshot of the quality and sustainability of a fund’s holdings, and the research firm also has a separate carbon rating – which is an assessment of the carbon risk within funds. “The combination of the two lets you distinguish at a portfolio level how one might stack up against each other,” he says.
Garvin Jabusch, chief investment officer at Green Alpha Advisors, agrees that it’s challenging for retail investors to discern individual green stocks because companies can disclose whatever information they want when it comes to ESG metrics. ESG – which stands for environmental, social and corporate governance – notes the central factors in measuring sustainability and societal impacts caused by investing in a business.
When researching an investment, he starts by digging into a company’s revenue. The first question he wants answered is: Does the company make its money in a way that reduces environmental risk or raises it?
“Exxon is getting paid to extract oil,” Jabusch says. “That’s a huge risk to the environment. I don’t care how good its ESG score is.”
Next, he says, comes old-fashioned fundamental analysis of the company’s balance sheet: its operations, business model, profitability, revenues, cash flow, ability to expand margins, investments in research and development, and debt level. According to Jabusch, in the early days of ESG, some investments underperformed because buyers ignored basic fundamentals.
“You need to find the companies that fall into the spot on the Venn diagram that both qualify under traditional fundamental analysis and genuine sustainability,” he says.
An example of a traditional green stock that marries these two factors is SunPower Corp. (ticker: SPWR), which he says is a global technology leader because its panels have the highest efficiency available.
By merging traditional fundamental analysis and scrutinizing the sustainability aspect of a firm’s revenues, investors can find green stocks that aren’t necessarily in typical sectors such as renewable energy. He likes innovative technology companies that can shrink the world’s ecological footprint but still help us maintain a good standard of living.
Technologies like artificial intelligence, automation and robotics help drive the sustainable economy, Jabusch says.
Applied Materials (AMAT) is an example of a nontraditional green company because of its advanced research in semiconductors. Another is TPI Composites (TPIC), which makes advanced composite materials for wind turbine blades used by companies like Siemens (SIEGY) and Vestas (VWDRY).
Green Investing Is Evolving
The landscape of green investing is changing, and many investors want to own companies that are transitioning to becoming green.
There is debate in ESG investing whether some companies, especially in the energy sector, are really making a transition or are just greenwashing.
“Investors need to ask themselves what are they trying to do with their investments,” says Mark Regier, vice president of stewardship investing and director of sales for Praxis Mutual Funds, which is advised by Everence Capital Management. “There’s a couple of places to go. You can invest in purely deep green, or you can invest in the messy middle.”
The “messy middle,” as Regier calls it, are companies moving from fossil fuels to clean energy. By investing in these companies, shareholders can advocate for better stewardship.
He points to the example of major gas and electric utility NiSource (NI). Through advocacy by Praxis, NiSource announced a plan in 2019 to retire all of its coal-generating plants by 2028 and replace the capacity with renewable energy while retaining its workforce, Regier says.
Reviewing a Company’s Green Transition
Investing in transitioning companies isn’t for everyone, he says, and greenwashing is always a legitimate concern.
To get a better understanding of what’s a real transition and what’s lip service, Regier says investors need to look at how a company’s balance sheet changes over time. Review if its investments in green initiatives are growing, or if it is dropping environmentally harmful activities.
Statements are one place to look, but also investigate what the company’s board of directors is doing. Look for documentation, the type of committees it has set up that are really looking into ESG and whether there is accountability that flows to the C-suite level.
“Those are signs, from our experience in engagement with companies, that show who is serious and who is not,” Regier says.
Joshua Simpson, financial advisor with Lake Advisory Group, says when he chooses companies for his firm’s green bona fides, he has three criteria: Is the company’s business model focused on sustainability, is it financially sound as to be around long enough to make an impact and is the firm doing something beneficial?
Two companies he likes that have strong balance sheets and are increasing their environmental business lines deal with garbage. These are Waste Management (WM) and Republic Services (RSG). For both companies, 10% or more of their revenues comes from recycling, and these are growing parts of their businesses.
Furthermore, green stocks don’t have to be flashy or constantly in the news, Simpson says.
“Oftentimes, it’s not the company that’s going out and trying to completely change the way we do things overnight that makes the biggest impact,” he says. “It’s the ones that do small things that they can make sure that they can do every single day, that they can increase what they do a little bit every year. They’re able to make the biggest impact.”