If one of your 2022 resolutions involves doing more to support the planet and its people, great news: ESG ETFs can help. ESG ETFs invest in companies that work to protect the environment, support people, and operate with transparency.
You won't be the only investor embracing ESG ETFs in 2022, either. ESG researcher MSCI predicts that ESG analysis will soon become standard practice for mainstream investors. The researcher also believes more investors will fund companies that specifically support environmental initiatives.
Here are two essential steps to start investing in ESG ETFs this year, plus five popular funds to watch.
1. Clarify your goals
ESG stands for environment, social, and governance. These three areas provide a framework for companies to organize and report on their sustainability initiatives.
The three-pronged ESG framework allows a company to demonstrate different strengths and weaknesses with respect to sustainability. For example, some organizations may have effective environmental programs alongside weaker track records on social initiatives.
This is why it's helpful to clarify your own goals before you dive into ESG investing. There are many investable ESG ETFs out there. Some focus on good corporate behavior across all three categories. Others cater to specific ESG issues, like clean energy or women in leadership.
Clarifying the behaviors you'd like to support from the start helps you narrow your field of suitable funds faster. You're also more likely to be happy with your ESG picks for the long haul.
2. Research ESG indexes
As a next step, do some preliminary research into ESG indexes. Many of the ESG ETFs you'll consider track an index. The various indexes in the ESG space all have their own methods for including or excluding constituents. Looking over the indexes and how they're constructed should help you formulate what you want and don't want in your portfolio.
Look to MSCI, Morningstar, FTSE, and S&P for ESG-focused indexes.
ETFs for new ESG investors
ETFs provide a nice starting point for your ESG holdings for a couple reasons. First, ETFs are diversified. You get exposure to dozens (and sometimes hundreds) of companies in each share.
Second, ETFs don't have high minimum purchase requirements. Some mutual funds ask you to buy in at $3,000 or more. But you need only buy one share of an ETF.
Remember, too, that your stake in an ESG fund is an investment and not a donation. Yes, the right ESG ETF aligns with your values, but it also provides acceptable financial returns. As such, you should evaluate your ESG fund options the same way you evaluate any prospective security. At a minimum, review the fund's track record, size, and expense ratio.
ESG ETFs to watch
The table below highlights five popular ESG ETFs, along with their size and expense ratio.
Financial Select Sector SPDR Fund (NYSEMKT: XLF)
Index fund tracking the Financial Select Sector Index
Vanguard ESG U.S. Stock ETF (NYSEMKT: ESGV)
Index fund tracking the FTSE U.S. Cap Global Choice Index
iShares MSCI KLD 400 Social ETF (NYSEMKT: DSI)
Index fund tracking the MSCI KLD 400 Social Index
iShares Global Clean Energy ETF (NASDAQ: ICLN)
Index fund tracking the S&P Global Clean Energy Index
SPDR S&P 500 Fossil Fuel Reserves Free ETF (NYSEMKT: SPYX)
Index fund tracking the S&P 500 Fossil Fuel Free Index
All five funds are passively managed index funds, but they each have a different type of exposure. The Financial Select Sector SPDR Fund, for example, invests in domestic financial companies. ESG performance isn't an investment criteria, per se. But since these companies do have excellent ESG track records, the fund has the highest possible MSCI ESG rating.
Vanguard's fund tracks the FTSE U.S. All Cap Global Choice index. This index includes companies of all sizes with strong ESG track records. Additionally, the index screens out businesses in certain industries that some find unappealing, including weapons and gambling. It also excludes companies with controversies in human and labor rights, environmental practices, and business ethics.
The iShares MSCI KLD 400 Social ETF tracks the MSCI KLD 400 Social Index. Like the FTSE index, the MSCI index includes companies with excellent ESG performance and specifically screens out certain industries and corporate actions.
The iShares Global Clean Energy ETF invests in clean energy companies around the world. And the SPDR S&P 500 Fossil Fuel Reserves Free ETF invests in S&P 500 companies that don't maintain fossil fuel reserves.
ESG investing for 2022
ESG investing has experienced a dramatic rise in popularity over the last few years. And there are no signs that trend will slow down, which bodes well for ESG investors and the global community.
If you invest in sustainability this year, you can feel good about making the world a better place as you pursue your wealth goals. That's a win-win.
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