Why ESG and Sustainable Investing Are Gaining Ground in 2025

The concept of sustainable investing is becoming more popular with the increasing focus on ESG. ESG stands for Environmental, Social, and Governance, which assesses how companies’ actions impact the planet and their workers, and how they are run.

These actions are graded on a scoring spectrum, from poor ESG scores (heavy environmental pollution, negative impact on people, and poor corporate governance) to good ESG scores (clean energy sources, commendable treatment of workers, and a strong corporate governance structure).

ESG investing refers to investors selecting companies with strong ESG scores for investment purposes, while filtering out those with weak ESG scores.

Key Factors Driving the Growth of Sustainable Investing

The rise in sustainable investing is attributable to the growing value investors place on not making money at others’ or the planet’s expense. For instance, mining operations that cut down innumerable trees, damage ecosystems, and pollute the soil and groundwater are now heavily frowned upon; in the same way, there is a global aversion towards trading in conflict diamonds.

A 2025 ESG report by Morgan Stanley has found that investors now prefer investments that also produce positive socio-environmental outcomes. This shift comes as the Gen Z and Millennial generations enter adulthood with a new set of values, forcing institutional firms to align with ethical investing values that protect the planet and ensure fairer treatment of people and workers. The demand by this new generation of investors for conformity with ESG standards is now the rule, not the exception.  

How New Global Regulations Are Shaping ESG Markets

Around the world, regulators are now enforcing new standards that demand greater transparency from companies about how they handle ESG-related issues. The European Union is leading the way, with more than 84% of global ESG fund assets held. Strict disclosure rules support this. These disclosure rules mean that companies are now obligated to report their ESG data, and that asset managers must also demonstrate that ESG factors are a component of their investment decisions.

On the global stage, the International Sustainability Standards Board has released new standards, including IFRS S1 and S2. These standards mandate that companies report, in a standardized manner, all sustainability and climate risks arising from their operations.

ESG regulation covers four areas:

1. Company reporting – which mandates companies to report on how they align with climate, people, and their own governance structure.
2. Fund labels & green claims – which mandate what investment funds can label themselves in terms of ESG. That is, can they use the words “sustainable”, “zero-carbon”, and “green” to describe their operations?
3. ESG ratings firms – these are the agencies that assign ESG performance scores to companies/investment funds.
4. Stewardship & finance – how financial institutions and service providers incorporate ESG into their products.

Major ESG Standards

a) ISSB

ISSB stands for the International Sustainability Standards Board and is the global standard for ESG disclosure. As of late 2025, 36 jurisdictions have adopted the ISSB standards. Formed by the IFRS Foundation, there are two subsets: IFRS S1 (general sustainability) and IFRS S2 (climate-related disclosures).

b) TCFD

The Task Force on Climate-related Financial Disclosures (TCFD) framework is a climate-specific ESG standard that covers risk, strategy, metrics, and governance. Since 2025, financial institutions in the UK have been mandated to report on their TCFD standards.

Do ESG Funds Outperform Traditional Investments

DO ESG funds do better in terms of returns on investment than traditional funds? Here is what the data says.

• A 2023 meta-analysis of hundreds of ESG/SRI studies found that, on average, the performance of ESG funds has not been distinguishable from that of traditional funds.
• A 2024 meta-analysis of sustainable investing also did not find any significant systematic outperformance or underperformance when compared to conventional funds.
• In the 2018–mid-2025 time frame, a Morgan Stanley study of Morningstar data showed that sustainable funds returned ~54% vs. 45% for traditional funds.

• Some studies, such as those by Morgan Stanley, have shown modest outperformance, while others have not.

With no guaranteed edge, the conclusion for now is that investing in ESG funds is more about aligning with personal or corporate values or identifying with sustainable investing as a means of managing future risks.

The Role of Climate Risk in Modern Portfolio Strategies

Sustainable investment strategies now factor in climate risk into financial risk equations.

So how does climate risk come into the equation? Climate risks are of two types:

• Physical
• Transition

Physical risks arise from climate change’s impact on the environment and, subsequently, on industrial supply chains. For instance, a very active hurricane season can cause factory damage, power outages, and blocked transportation routes, all of which negatively affect various components of the supply chain. Reports by the International Monetary Fund (IMF) and the Bank for International Settlements (BIS) confirm this and indicate that it carries the risk of significant repricing across sectors.

Transition risks result from attempts to shift from fossil-fuel-dependent energy to low-carbon economies. As this shift occurs, companies that are slow or impeded in the transition process may incur fines, taxes, and other penalties from regulators. Disruptive technologies can also upset an entire sector, as electric cars have done to the auto industry.

Modern Portfolio Theory (MPT) revolves around volatility, expected returns, and asset correlations.

Unexpected policy changes, such as green energy mandates and carbon taxes, can increase volatility in affected assets. This point was revealed in a study done by the Network for Greening the Financial System (NGFS). Carbon-heavy assets are especially vulnerable.

Expected returns can face pressure from fines, lawsuits, or regulatory action. Affected companies can lose market share to low-carbon competitors.

Shocks that affect correlated assets can also occur, as climate risks can have wide-ranging impacts across asset classes. If such shocks hit correlated assets, it becomes difficult to diversify the modern portfolio.

How Retail Traders Are Using ESG Metrics in 2025

Retail traders tend to benefit from a more straightforward approach to ESG engagement when it comes to sustainable investing. As such, impact investing from a retail perspective uses a scoring system to filter ESG-compliant investment assets from non-compliant ones.

a) ESG Scoring

One way retail traders can engage with ESG is by using the scoring systems available on broker platforms or investment apps. The scoring systems are varied, but typically come as a number spectrum (0-100), star ratings (1-star to 5-star), or lettered grades (grade A to F).

The simplicity of these systems helps retail traders easily identify ESG-compliant assets. A study by the Ontario Securities Commission found that assigning ratings to ESG compliance had a strong influence on retail investors’ choices.

b) Risk Filtering

Retail investors use ESG news when it looks relevant to an investment decision. They can use it to:

• Screen out companies that could run afoul of ESG regulators (tobacco, environmental polluters, weapons makers).
• At the same time, companies with sound ESG policies can get investment consideration.

Challenges and Criticisms Facing ESG Investing

A major critique of ESG is that the entire concept has been more of a PR stunt created to make money for companies heavily vested in the “green” concept, which may lead the audience to question its genuine intent and foster critical analysis.

There are also claims that ESG is all label dressing: ESG badges being used with no changes to how business is conducted.

ESG scores are not uniform, creating inconsistency. This was highlighted by a study titled “Aggregate Confusion: The Divergence of ESG Ratings.”
There is also the question of impact and performance claims. While some argue ESG is more about improving returns on investment, empirical evidence and case studies are needed to determine whether it genuinely contributes to positive societal or environmental change.

There is also the issue of politicization of the ESG concept. Recently, ESG has become a campaign issue for the Democratic and Republican parties, with the more liberal Democratic Party favouring it while GOP candidates vigorously campaign against it. US President Donald Trump is a known climate change denialist, which may make the audience feel the need to consider the political biases involved.

ESG has also been criticized by developing nations as a tool used to keep them perpetually underdeveloped. The argument here is that the costs of transitioning are prohibitive and that the advanced nations that are at the forefront of championing ESG as a new way of doing business should bear the burden, or allow them to transition at their own pace.

Should You Add ESG Assets to Your Portfolio in 2025

You can invest in ESG assets in 2025; the investing world is moving in that direction. However, do not invest in ESG assets because it is trendy to do so, but rather invest in ESG as a means of aligning with sustainable investing values and as a risk-filtering mechanism.

FAQ