Article Your no-nonsense, sustainable investment glossary. 30 January 2024 Read time: 6 min Sustainable finance and responsible investment terminology (like, what on earth is ‘shareholder participation’) can be daunting, confusing and complex at times. Yet these terms are often found in investment reports, finance news and can come up in discussions with your financial advisor.* So it’s important to have an understanding of what they mean. To save you a long Google search and give you the rundown on the ABCs of ESGs, we’ve put together our 2024 sustainable finance glossary with some of the key terms you need to know. You can thank us later! * A good advisor will always take the time to explain to you anything you don’t fully understand. Talking with a financial advisor about what some of these terms below mean in relation to your situation or portfolio is strongly recommended. What is “Active ownership”? Active ownership in the context of sustainable finance means using your power as a shareholder to improve company behaviour and ESG performance (see definition of “ESG” below). There are two common ways of doing this. Either by engaging (covered in “Shareholder Engagement”, below) with investee companies or by using your vote at shareholder meetings. Active owners can affect everything from company policy and procedure to board appointments, hiring / firing of executives, and product / service changes. What is “Best-in-class screening”? A best-in-class investment screening approach is one where you actively seek companies, assets or investments that are leaders when it comes to ESG criteria. It’s important to note that best-in-class screening ranks companies, relative to their industry peers. Therefore, it doesn’t account for the harm caused by, or the overall track record of, the industry itself. So for many responsible investors, best-in-class screening is considered problematic when used in isolation (i.e. not in conjunction with other positive, negative or norms-based screening techniques) because it merely compares ‘the best of a bad lot’. You can learn more about screening techniques here. What is a “Carbon footprint”? A term you may already know, carbon footprint is the amount of greenhouse gas emissions generated by a company over a set time period. Basically, it calculates the amount of carbon dioxide generated. It also includes other gases that contribute to global warming such as nitrous oxide and methane. For this reason, you may also see this term referred to as a greenhouse gas footprint. What are “Carbon offsets”? Carbon offsets are used by a company or organisation to compensate for what they are emitting and thereby decrease their net emissions. One way companies offset their emissions is by purchasing ‘carbon credits’. Typically, one carbon credit allows for the emission of one tonne of ‘carbon dioxide equivalent’ (a combined measure of the warming potential of various greenhouse gases). Other (arguably better) ways companies or organisations can manage their emissions without the use of carbon credits include: Contributing to activities that actively remove CO2 from the atmosphere naturally, e.g. reforestation Reducing and avoiding CO2 from entering the atmosphere, e.g. replacing use of fossil fuels with renewable energy What does “Corporate governance” mean? Corporate governance is a set of rules, practices and processes by which a company is effectively managed or run. Good corporate governance creates controls that guide leaders, build trust with the community and public and align the interests of key parties (shareholders, management, clients, suppliers, employees, etc.) What does “Divesting” mean? Divesting is when a shareholder sells shares or bonds, essentially exiting that company’s holdings. In an ESG context, this is usually because the shareholder disagrees with business practices and/or engagement has failed to influence the company or fund’s behaviour. What is “ESG”? “ESG” is a world of corporate performance data that helps us account for the environmental, social and governance behaviour of a company or investment. It’s one of those terms that most recognise, but not everyone understands. E stands for a company’s environmental performance, like carbon emissions or the amount of water used. S reflects a company’s social factors such as gender, race, diversity and inclusion. G reflects a company’s governance factors such as corporate risk management, tax and reporting practices. These days, ESG integration is generally regarded as one of the basic building blocks of a sustainable investment strategy. What is “ESG Integration”? “ESG integration” is the systematic and explicit inclusion of environmental, social and governance (“ESG”) performance data in an investor’s analysis and decision-making process. It provides a framework that helps account for the externalities of a company or investment. And in turn, it gives a more comprehensive picture of an investment’s real current and future value, and its risks. What is “Ethical Investing”? Ethical investing is where a person’s moral principles are the filter or criteria used for selecting investments. It gives the individual the power to choose to invest their capital towards companies or assets that best align to their beliefs, morals and values. What are “Green bonds”? Green bonds are bonds that are issued to finance projects that combat climate change or address other environmental issues, e.g. reducing pollution. Victoria has become the first Government in Australia to issue Green Bonds and the world’s first state or federal government to issue bonds with the international Climate Bond Certification. What is “Greenwashing”? Greenwashing is where a company or individual conveys a false or misleading impression of how they meet ESG criteria. When it comes to investing, greenwashing includes the act of misrepresenting or overstating the ethical credentials of a fund. What is “Impact Investing”? Impact investing is an investment approach that aims to generate positive and measurable social and environmental outcomes, whilst also generating a financial return. This type of investing is about making a difference at the same time as making money. Impact investors actively allocate their capital to businesses, projects, or funds that aim to address social and environmental challenges. In this way, impact investing is tied closely to theUN’s 17 Sustainable Development Goals (SDGs) which you can read more about here. What is the “Net Zero Target”? The net zero target is a global goal to balance the emissions of carbon dioxide due to human activities with the removal of these gases over a given period. In practice, the aim is to drive down emission as close as possible to real zero (as opposed to net zero), and then allow any remaining emissions to be re-absorbed from the atmosphere, by our oceans and forests for instance. In this context, carbon offsetting should only be relied upon where absolutely necessary. What is “Positive Screening”? The opposite of negative screening, positive screening is the process of finding and including companies that score highly on ESG criteria in your investment portfolio. This is usually done at the same time as negative screening. It is just one of many screening techniques that can be used to assemble and asses a responsible investment portfolio. What are the “Principles for Responsible Investment”? Principles for Responsible Investment (UNPRI or PRI) is a UN-supported international network of financial institutions and investors working to create a more sustainable global financial system. This network involves being a signatory to six core Principles for Responsible Investment that actively incorporate ESG into investment decision-making and ownership practices. The six Principles for Responsible Investment are: We will incorporate ESG issues into investment analysis and decision-making processes. We will be active owners and incorporate ESG issues into our ownership policies and practices. We will seek appropriate disclosure on ESG issues by the entities in which we invest. We will promote acceptance and implementation of the Principles within the investment industry. We will work together to enhance our effectiveness in implementing the Principles. We will each report on our activities and progress towards implementing the Principles. What is “Proxy voting”? Proxy voting is a vote or ballot cast by a single person or a firm, on behalf of a shareholder, during a shareholder meeting. In some cases, fund managers who are large shareholders in a company can use their votes to support ESG matters. What is “Renewable Energy”? Renewable energy is energy that comes from sources that naturally replenish themselves. Think – the sun, wind, tidal etc. Using a renewable energy source allows us to generate electricity indefinitely. There are five principal sources of renewable energy: Hydroelectric power Wind power Solar power Biomass power Geothermal power What is “Shareholder Engagement?” In the context of sustainable investing, Shareholder Engagement involves evaluating the ESG performance of a company or investment. And then, pushing for continual improved. Engaged shareholders develop long-term relationships with a company’s key stakeholders. They work to influence policies and processes, and improve outcomes related to ESG over time. What are the “Sustainable Development Goals (SDGs)”? In 2015, the global community adopted the United Nations’ Sustainable Development Goals (SDGs). The SDGs are 17 objectives for improving quality of life for humanity and the planet. Objectives include no poverty, zero hunger, access to clean water, improved education, climate action and more. Today, the SDGs provide a framework for the world’s sustainability priorities, including the 2030 Agenda. So how do the SDGs relate to finance and investors? The SDGs offer a lens through which investors can assess “sustainability trends relevant to investment activity and their fiduciary duties.” Moreover, they can be used to identify both risks and opportunities, and guide long term investment decisions. Your 2024 Sustainable Finance Glossary. So, there we have it financey-investing folk. A KG-approved sustainable finance glossary. Hope we’ve helped to clarify of some key terms you come across in your investment journey. And if there are others you’d like clarified or defined, let us know! As always, if this this has sparked your interest and reminded you to check in with your financial advisor, you can always get in touch with us.