10 questions - réponses sur l’intégration des facteurs ESG
Kathryn McDonald, Head of Sustainable Investing at AXA Investment Managers, Rosenberg Equities, discusses investors’ growing interest in environmental, social and governance (ESG) issues, Rosenberg’s approach to these ideas, and the influence they are having on the investment landscape.
Q: How does Rosenberg Equities think about ESG when applied to equity investing?
We believe that ESG criteria point to economic risk and reward that may not be reflected in traditional sources of financial information. It is also very important to differentiate between ESG investing and ethical investing, the latter of which should be considered in its own right.
We believe the most important role of ESG is to introduce a long-run perspective into a discipline that can fall prey to being short-run in horizon. Along both risk and reward dimensions, most ESG information will take years to play out, not months, making ESG considerations a natural complement to traditional financial data.
Q: ESG investing is gaining traction; what has changed?
A: It is and, for those of us who have been working in this area for some years, it has been a long time coming! There’s still further to go and, frankly, we still see a lot of variation across markets, but the combination of an evolving regulatory environment (for example the recent introduction of carbon reporting for French institutional investors) and changing investor priorities certainly seems to point in the direction of greater adoption of ESG investing.
Q: What is Rosenberg Equities’ background in ESG investing?
A: Rosenberg Equities has been running what used to be called SRI portfolios for years – well back into the mid-1990s – for our clients. The focus of these strategies was largely exclusionary. In 2014 we launched our first truly ESG-integrated pooled fund in Australia and then launched the same strategy in the European market.* We are pleased to announce that we have now integrated ESG in all of Rosenberg’s portfolios.
Q: How do you go about integrating ESG into your process?
A: We have two important advantages. The first is our partnership with the Responsible Investment (RI) team within AXA Investment Managers (AXA IM). AXA IM has long been a leader in this area. The second is the nature of our investment approach, which enables us to systematically incorporate ESG data directly and efficiently into our models. Once the data is in our system we can work with it in a variety of ways, from research and analysis to reporting ad portfolio construction. For example, we add ESG Score and Key Performance Indicators (KPI) targets to portfolio optimization alongside our traditional alpha and risk measures. In this way, we guarantee that ESG will be ‘part of the dialogue’ when it comes to driving portfolio positioning and real investment outcomes. That said, we are unwilling to sacrifice the traditional risk and reward profile of our strategies when integrating ESG, so when faced with two stocks of identical ESG scores, our optimiser would always favour the one with the highest alpha, all other considerations being equal.
Q: What kinds of data do you focus on?
A: Data is at the heart of what we do and the same core principles that we insist upon when working with traditional financial data are also what we seek when looking for ESG information on companies. But as anyone who has worked on ESG investing well knows, the quality, accuracy, and timeliness of ESG data is a work in progress. We are very encouraged by the fact that, as more investors demand this information on companies, the data has improved dramatically. At a high level, although ESG information has been traditionally thought of as “extra-“, or even “non-financial” data, we absolutely believe it contains economic information as well. That is, ESG information can affect our view of the fundamental worth of a company. We try to get at that both through single comprehensive scores that capture the E, S and G attributes of a company and through more granular data focused on specific aspects of a firm’s ESG performance, often referred to as key performance indicators (KPIs). We find these are highly complementary to shorter-horizon, traditional financial data.
Q: How do these factors affect risk and return?
A: The past couple of years have given us plenty of examples, both at an individual stock level and across industries, of the potential impact of ESG and the weight that investors place on it. Going beyond the familiar high profile cases, we’ve done a lot of research into the less visible influence of ESG concepts at a market level. For example, we have used our fundamental valuation model to analyze how investors treat carbon when they price companies. We find that when carbon is modelled as an income statement item it consistently behaves as an expense – that is, investors systematically adjust companies’ values down to account for their carbon footprint. (See: “Does carbon have an impact on share price?) Furthermore, our research suggests that there is a risk benefit from including ESG as many of the worst ESG offenders exhibit higher risk than the market along stock-specific dimensions, as well as lower quality characteristics such as return on equity. We strongly believe in ESG as a potential long-run source of excess return based on our core belief that companies that use their resources wisely (natural resources, human resources, brand) will be the long-run winners.
Q: What impact does ESG integration have on portfolio characteristics?
A: Our experience tells us that we can build portfolios with the same fundamental characteristics we always have, but with improved ESG profiles. So, the idea that integrating ESG into a portfolio inevitably leads to significant changes in exposures or a reduction in expected return simply isn’t true – particularly for an investor with a broad selection universe. Yes, certain areas of the market are more exposed to specific aspects of ESG and that can flow through to sector positioning – utilities, for example, are typically carbon intensive, so may not feature as prominently in a low carbon portfolio. But our investment universe includes roughly 20,000 stocks so, for us, finding a stock with similar financial characteristics and a superior ESG profile rarely poses much of a challenge.
Q: Do you have ESG data for all of the stocks you cover?
A: ESG data coverage is improving rapidly but doesn’t yet span our full investment universe. However, that’s partly a reflection of the breadth of our universe and it isn’t limited to ESG – the same is true of analyst earnings estimates, for example, because we cover many stocks that analysts don’t! In both cases, we’ll use the information where it is available and of sufficiently high quality. Our Responsible Investment team currently produces ESG scores for approximately 6,000 companies, covering the entire MSCI World and MSCI Emerging Markets indices, and also has strong coverage among small caps – scoring about 85% of the MSCI World Small Cap Index. Our data sets on carbon footprint and water usage are also robust across the capitalization spectrum.
Q: Why are you integrating ESG into all of your portfolios now?
A: While we have been running portfolios with either SRI or ESG criteria for a number of years, a number of factors have converged to allow us to make this step. First, AXA IM’s broader interest in ESG and group-wide decision to divest from certain stocks and sectors, together with the strong support for the RI Team, means that integrating ESG data into our systematic investment process is a logical progression towards our ambition of being a sustainable, long-term and active investor. Second, the breadth and depth of data has improved, giving us much greater confidence and deeper insights. Most importantly, we are comfortable with how ESG concepts interact with the traditional risk and reward measures that we hold dear. Our belief has evolved and grown over the years. ESG is an anchor of our ‘sustainable investing’ philosophy.
Q: What is next for ESG investing?A: The investment community is still in the early stages of embracing ESG. So, as well as ongoing research and integration within Rosenberg Equities, we are working to develop and establish these concepts more broadly. For example, we are part of initiatives aimed at standardizing the reporting of ESG criteria by the companies in which we invest. We are also focused on improving how we report on ESG to our investors, aiming to provide ongoing transparency and insight, both from an investment and a sustainability perspective. From a product perspective, we are investigating innovative ways in which we can use ESG information to think about ‘listed impact’ solutions for clients wanting a targeted approach to themes such as climate, diversity, or norms-based goals such as the UNSDG.
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