Episode 102: Socially Responsible vs Traditional Investing

Transcript

Hello and welcome to the balanced wealth podcast. My name is Gavin DiStasi and today, we’re diving into one of the most debated topics in modern investing: the performance of socially responsible, or ESG, investing compared to traditional strategies.

For decades, socially responsible investing carried a stigma: the idea that if you wanted to invest with your values, you’d have to accept weaker returns. Investors were told that avoiding certain industries or prioritizing sustainability might feel good, but it wasn’t “smart money.”

That perception is changing. In fact, the evidence has been changing for years. A comprehensive study from NYU Stern’s Center for Sustainable Business and Rockefeller Asset Management reviewed more than 1,000 research papers published between 2015 and 2020, and the findings are clear: ESG investing performs as well as—and often better than—traditional investing

This shift has major implications, not only for investors seeking returns but also for those hoping to use their capital as a force for positive change.

When socially responsible investing began in earnest in the 1970s and 80s, the approach was typically negative screening. Funds would exclude companies involved in alcohol, tobacco, gambling, or weapons. Later, fossil fuels and other controversial industries were added to the list.

The problem was simple: by excluding entire sectors, early ESG funds limited diversification and sometimes cut out highly profitable companies. That made underperformance a real possibility. Traditional finance professionals argued that aligning portfolios with personal values might be noble, but it wasn’t a sound investment strategy.

For years, this belief dominated the conversation. ESG was seen as philanthropy dressed up as investing.

Fast forward to the past decade, and things have changed dramatically. The NYU Stern study found that ESG and financial performance are not only compatible but often positively correlated.

Here are some of the key findings:

• At the corporate level, 58% of studies found a positive relationship between strong ESG practices and financial performance, measured by metrics like return on equity, return on assets, or stock price. Only 8% showed a negative relationship
• At the investor level, 59% of studies showed ESG investments performed as well as—or better than—traditional investments on risk-adjusted measures like alpha or the Sharpe ratio. Just 14% found negative results
• And in studies focused specifically on climate change strategies, 65% showed positive or neutral performance relative to traditional investments.

That’s a far cry from the old narrative of guaranteed underperformance.

And it’s not magic—it’s management. Companies that embed sustainability into their strategy often reap real-world advantages.

The NYU Stern team highlighted several mediating factors behind this outperformance:

First, Innovation – Companies focused on sustainability are often more innovative, developing new products and processes that open growth opportunities.

Second, Risk management – Firms attentive to ESG tend to avoid scandals, fines, and operational risks that can erode shareholder value.

And finally, Operational efficiency – Reducing waste, improving supply chains, and optimizing resources drive margins higher.

In other words, ESG isn’t about “doing good at the expense of profits.” It’s about smart, forward-looking business.

One particularly important takeaway from the study is that ESG’s benefits show up more clearly over longer time horizons.

Research shows that while ESG factors may not boost short-term returns dramatically, they tend to create resilience and growth over the long haul. For example, studies found that companies with high ESG ratings outperformed by up to 3.8% over the mid- to long-term

This makes sense. Things like reducing carbon emissions, investing in employees, or building ethical supply chains take time to pay off—but when they do, they create lasting value.

Another fascinating finding is ESG’s role as a potential downside protector.

During the 2008 financial crisis, German green mutual funds performed slightly better than peers, and ESG indices like FTSE4Good recovered faster

In the COVID-19 downturn, 24 out of 26 ESG index funds outperformed their traditional counterparts in the first quarter of 2020. By the third quarter, nearly half of ESG funds had outperformed their benchmarks.

This resilience isn’t accidental. Companies that prioritize ESG principles are often better equipped to weather shocks.

It’s also important to note that not all ESG strategies are created equal.

The NYU Stern study found that ESG integration—embedding ESG considerations into traditional financial analysis—performs better than negative screening alone. Simply excluding industries may limit diversification without necessarily enhancing returns. But when ESG is treated as a lens for identifying risks and opportunities, it can be a true alpha generator

One especially promising approach focuses on “ESG Improvers.” Research shows that companies actively improving their ESG practices—not just those already rated highest—often outperform. A back-tested portfolio of ESG Improvers beat ESG Decliners by nearly 4% annually between 2010 and 2020

This underscores that ESG is dynamic, not static. It’s not just about who’s best-in-class today, but who’s adapting and improving over time.

Now, let’s play devil’s advocate for a second. What if ESG investing didn’t outperform? What if it merely matched traditional investing over the long term?

Even then, the case for ESG remains strong. Here’s why:

Every dollar invested in ESG sends a signal. It tells companies that investors value sustainability, equity, and responsibility. It pushes firms to adopt better policies—on climate, labor, diversity, and governance—because they know capital flows toward good actors.

In other words, ESG investing is a way for investors to vote with their dollars. And as demand grows, corporate leaders can’t ignore it.

At the end of the day, investing isn’t only about returns. It’s also about aligning wealth with values.

If ESG investing can deliver comparable returns, with the added benefit of encouraging companies to address climate change, protect workers, and govern responsibly, then why wouldn’t more investors choose that path?

The NYU Stern study itself concluded that very few other studies have showed a definitive negative correlation between ESG and financial performance. The majority showed neutrality or outperformance

That’s compelling evidence that you don’t have to choose between doing well and doing good.

So where does this leave us? The myth that ESG investing underperforms is crumbling. Evidence from more than 1,000 studies suggests ESG is at least on par with, and often better than, traditional strategies.

And even if the returns were the same, ESG investing plays a crucial role in shaping corporate behavior for the future we all share.

Maybe in that sense, managing money is not just about achieving our financial goals. Perhaps it can be a way to help create a better world for all of us.