Socially responsible investing provides investors with a means to manage environmental, social, and governance (ESG)-related exposures, but much remains unknown about the performance potential of these strategies. We believe the best path for improved return is through portfolio construction, by combining ESG objectives with smart beta.
According to the Research Affiliates investment beliefs, investors have preferences beyond risk and return—for example, investing in companies that follow socially responsible business practices. Socially responsible investing, which provides investors with a means to manage environmental, social, and governance-related exposures while also promoting social and environmental issues, has grown in popularity in recent years. A lack of long-term consistent data limits research into ESG these strategies, however, so much remains unknown about their performance potential.
The empirical research results we have on the investment merits of ESG are mixed for performance, but less ambiguous for risk. We prefer not to shy away from meeting investor preferences because of what remains unknown about the investment merits of ESG. We believe the best path for improved return potential is through portfolio construction—by combining ESG objectives with smart beta and by leveraging metrics, such as financial discipline and diversity. These metrics are wholly consistent with ESG investing and support long-term value creation and sustainable growth.
Research Affiliates, our sister company, has published a number of articles to help investors
navigate the relatively new world of ESG investing and to satisfy the dual objective of socially responsible investing and excess returns.
ESG Is a Preference, Not a Strategy
We believe the term ESG strategy is a mischaracterization. The underlying investment process drives the return of the chosen investment strategy, while the ESG preferences reflected in the securities selected for the portfolio do not. We make this distinction not to disparage ESG investing, because we actually view this trait as a benefit and value the ability to align our portfolios’ composition with our beliefs without a meaningful impact on performance.
Green Data or Greenwashing? Do Corporate Carbon Emissions Data Enable Investors to Mitigate Climate Change?
Absent mandatory reporting, data providers estimate half of corporate emissions data. Thus, such data fare poorly in identifying the worst emitters and provide little information to identify green companies in brown sectors. Published on SSRN.
The Time Is Now: Climate Transition Investing for US Investors
Europe is a step ahead of the United States in climate-related regulation, but we expect a similar regulatory structure will be enacted soon in the United States. US investors have an opportunity now in planning how to align investment decision making with the provisions already outlined by EU regulators.
Is ESG a Factor?
Applying the definition of factor robustness established by our Research Affiliates colleagues in their 2016 award-winning paper, we determine that ESG is not a factor. Nevertheless, the importance of ESG as an investing strategy is undeniable. We explore how greater clarity around defining ESG can quicken the pace of ESG integration in equity portfolios.
What a Difference an ESG Ratings Provider Makes!
The need for ESG ratings to help investors construct portfolios in line with their ESG preferences is acute. Unfortunately, both quality and consistency of ratings can hamper the process. We compare the ratings of two well-known ESG ratings providers to highlight why investors need to have a solid understanding of their provider’s methodology.
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