ESG Funds: What Are They? Why Are They Required?

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A recent PwC report projects that institutional funds emphasizing environmental, social, and governance (ESG) will rise by 84% to US$33.9 trillion in 2026, making up 21.5% of assets under management. Before making an investment decision, investors are increasingly considering environmental, social, and governance factors.

This significant increase in ESG-focused institutional funds reflects investors' growing awareness of the broader impact of their investments and the potential for both ethical and financial returns

What are ESG Funds?

ESG funds are investment vehicles that prioritize companies with strong ethical and sustainable practices. By choosing ESG investing, you are directing your investments to companies that are committed to making a positive impact on the world.

These practices include renewable energy, transparent financial reporting, fair labour practices, and so on. These funds' goal is to generate long-term financial returns while mitigating risks related to environmental, social, and governance issues.

What Are the Benefits of Investing in ESG Funds?

1. Positive impact

The funds can contribute to a positive impact as they invest in companies that are aligned with ESG factors. These companies reflect positive societal and environmental outcomes, such as reduced carbon emissions, improved labour practices, and community engagement.

Moreover, these funds can empower communities through social impact investments and support initiatives that address pressing social and environmental challenges. 

2. Diverse portfolio 

ESG-focused funds invest in a broader spectrum of industries, which offers attractive growth potential and diversification beyond established sectors. These funds also ensure they are following the exclusionary criteria which keeps them out of companies involved in activities deemed harmful to society. This further diversifies the portfolio away from volatile and controversial areas.

3. Market Demand

The growing market demand for ESG presents an advantage to ESG investors. This surge in popularity is driven by several factors, including increased awareness of ESG risks and benefits, supportive regulations, the growing influence of millennial investors, and rising institutional interest. This increasing demand provides investors with numerous opportunities. 

4. Long-term performance

According to an empirical analysis published on Frontiers, ESG has positively affected corporate financial performance. This happens because ESG investments offer benefits like lower risks, better efficiency, and a stronger reputation for companies. They also let investors get involved in the emerging industries and technologies that are becoming more important in transitioning the world. This involvement in emerging industries gives scope for long-term performance. 

Types of ESG Funds

There are many different types of ESG-focused funds available, each with its unique investment strategy and focus. Considering the broader umbrella and the strategy, there are several categories such as ESG mutual funds, ESG ETFs, ESG equity funds, etc.

Here are some of the most common types based on their focus:

1. ESG Integration Funds

These are the broadest category and invest in a wide range of companies, but they consider ESG factors alongside traditional financial metrics during selection.

2. ESG Exclusionary Funds

These funds follow a more targeted approach, actively excluding companies from their portfolios based on their involvement in certain industries or activities deemed harmful to the environment or society. For example, fossil fuels, tobacco, weapons, etc.  

3. ESG Impact Investing Funds 

These funds focus specifically on companies actively working to solve environmental and social problems, such as renewable energy or sustainable agriculture.

4. ESG Thematic Investing Funds

These funds focus on specific themes within the ESG spectrum, such as climate change, clean water, or gender equality, and invest in companies addressing these challenges.

Challenges in ESG Investing

The rapid rise of ESG investing funds reflects a meaningful shift toward responsible finance, but this growth also brings several challenges that investors must navigate. One major concern is the inconsistency in ESG ratings across different agencies. 

Given each organisation uses its own scoring models and criteria, companies may receive widely different assessments. Understanding these variations becomes easier when you learn how ESG integration works at a business level, as it reveals why frameworks differ so dramatically.

Another challenge is the risk of greenwashing. As ESG becomes more popular, some companies exaggerate their sustainability achievements or selectively disclose information to meet investor expectations. 

This makes it difficult for individuals to identify the best ESG funds backed by authentic responsibility rather than marketing. The issue becomes clearer when you look at how large corporations influence ESG narratives, which highlights how sustainability messaging can be shaped or distorted.

Finally, balancing ESG priorities with financial returns adds complexity. While strong ESG practices can support long-term performance, strict exclusion criteria or sector limitations may affect diversification. Investors must examine how funds balance ethics with returns to ensure alignment with their financial goals.

How to Choose the Right ESG Fund 

Choosing the right ESG investment vehicle requires thoughtful evaluation. Whether you’re new to sustainable finance or looking to diversify, understanding what an ESG fund is and how it is structured is essential.

1. Check the Fund’s ESG Strategy: Look closely at whether the fund follows integration, exclusionary screening, impact investing, or thematic investing. This clarifies what ESG funds are in the context of your goals.
2. Examine the Underlying Holdings: Review the companies included in the portfolio. The best ESG funds demonstrate transparency and show how each investment aligns with environmental, social, and governance principles.
3. Evaluate the Fund Manager’s Track Record: Assess performance history, consistency, and the manager’s experience in handling ESG investing funds.
4. Review ESG Ratings and Third-Party Assessments: Independent ratings help validate whether ESG investment funds back their claims with measurable impact.
5. Understand Fees and Risk Profile: Compare expense ratios, risk factors, and volatility. A balanced ESG investment fund should fit your ethical and financial goals.
6. Look for Transparent Reporting: High-quality funds publish clear disclosures. You can refer to a clear guide on reading ESG reports and disclosures to evaluate transparency effectively.

The Future of ESG Investing and Responsible Growth

As investors become more conscious of the impacts their money can have, ESG investments offer a path to align financial goals with ethical values. This trend is a testament to the growing understanding that sustainable and responsible investments are crucial for the long-term health of the economy and the environment.

AI-powered platforms like Breathe ESG play an essential role in supporting this transition by giving investors and businesses access to accurate, transparent, and assurance-ready sustainability data. 

With automated analytics, real-time tracking, and comprehensive reporting tools, Breathe ESG helps organisations strengthen the credibility of their ESG performance and make more informed investment decisions. 

For those looking to build or evaluate high-quality ESG strategies, having the right technology partner is critical, and Breathe ESG simplifies that entire process.

FAQs

Are ESG funds a good investment?

Yes, ESG funds can be strong long-term investments because they prioritise companies with lower risks, better governance, and sustainable growth potential. They often show competitive or even superior performance compared to traditional funds.

Which ESG fund is the best?

There’s no single “best” ESG fund, since the ideal choice depends on your goals, risk tolerance, and values. However, Breathe ESG helps identify the best ESG fund by comparing fund strategies, ratings, and disclosures.

What does ESG investment mean?

ESG investment means allocating capital to companies evaluated on environmental, social, and governance practices. It focuses on both financial performance and long-term positive impact on people and the planet.

How long does an ESG investment last?

ESG investments typically support long-term strategies, as sustainability benefits unfold over years rather than months. Tools like Breathe ESG help track progress and ensure your ESG commitments stay consistent and measurable.

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