Seizing opportunities and tackling myths in ESG investing

Environmental, social and governance (ESG) investing is becoming a more integral part of managing risk and capitalizing on returns, according to a couple of recent reports.

Geneva, Switzerland–based global asset manager Unigestion considered the role of active risk management as the economic cycle winds down in a report published last month. Among the associated considerations for investors were the importance of diversification and active equity management, with ESG investing a key emerging trend.

“Integrating ESG criteria into our investment decision-making processes is essential to better manage the risk of our investments,” the report said, adding that ESG investing is a way to deliver on the manager’s fiduciary duty of generating long-term, sustainable returns.

That’s because companies that tackle global environmental and social challenges are more likely to spot trends early and adapt accordingly, with positive results. “We therefore seek to invest in companies with meaningful sustainable business practices, which are more likely to be leaders and innovators over time,” the report said.

Capitalizing on growth related to such innovation might be particularly lucrative in emerging markets. In a recent report, New York–based global asset manager PineBridge Investments said emerging markets are “driving global economic growth, and ESG factors have never been more important to investors looking to harness this growth.”

As such, the report addressed several myths about ESG investing in emerging markets, including that ESG risks are higher in those countries than in developed markets. Not so, the report said, because demand for corporate responsibility and disclosure is a global requirement for investors in both markets in equal measure.

It also addressed the myth that ESG investing in emerging markets doesn’t boost returns. Yet, evidence suggests that an ESG framework provides “an extra layer of protection, especially in periods of market stress,” the report said.

For example, the performance of the MSCI Emerging Markets Leaders Index, a capitalization-weighted equities index that provides exposure to emerging-market companies with high ESG performance relative to their sector peers, has delivered cumulative returns over the last decade that are higher than those of the MSCI EM index.

PineBridge also noted that clients are increasingly focused on ESG, so those criteria typically form a “major segment on our meeting agendas,” the report said.

Increased client focus was evident in a Cerulli Associates survey that found half of European insurers exclude industries that don’t meet their ESG standards, including tobacco and coal, and that they apply ESG scoring to the remaining investable universe. And some insurers are moving to ESG-focused benchmarks for all major asset classes, the Boston, Mass.–based research firm said in a release.

However, its research also found that 38% of respondents integrate ESG considerations only in certain asset classes, such as government bonds, because integrating ESG factors across the entire investment portfolio is challenging. “Despite the importance of ESG integration in the asset class [of government bonds], so far little information is available regarding best practices or how to approach ESG integration in this area,” the release said.

That lack of information presents an opportunity for managers, especially as investment management is increasingly outsourced.

To capitalize on that opportunity, asset managers must develop ways to measure and report the impact of investments, said Justina Deveikyte, associate director in Cerulli’s European institutional research team, in the release.

“They should be prepared to give clear advice on what insurers should be considering buying and excluding, and what the important factors are when it comes to ESG investing,” she said.

In its report, PineBridge said emerging market data exist, but “it can be compiled and assessed only in conjunction with a thorough fundamental credit process.”

For more myths about ESG in emerging markets, read the report from PineBridge Investments. For more on managing risk, read the Unigestion report.