At Pax World, we define sustainable investing as the full integration of environmental, social and governance (ESG) factors into financial analysis and decision-making.
As a recognized leader in this approach, we have long believed that sustainable investing is a better, smarter way to invest, and there is now a growing body of research suggesting that such an approach serves investors well over the long term.
Consider the following:
- In 2007, Goldman Sachs introduced GS Sustain,1 a focus list of companies Goldman’s analysts believe are attractive from an integrated ESG/financial perspective. The sustainability “winners” identified by Goldman outperformed the MSCI World index by 250 basis points over the two years between the summer of 2005 and the summer of 2007.
- A report of the United Nations Environmental Programme Finance Initiatives (UNEP FI), Show Me the Money, summarizing some of the data on the correlation between sustainability performance and financial performance, concluded with this commentary from CRA RogersCasey: “[W]e were impressed by the quantity of reports that showed a strong link between ESG issues, profits, business activities and, ultimately, stock prices.”2
- A study done by Innovest Strategic Value Advisors simulated the effect of incorporating environmental ratings into portfolios of large U.S. pension funds by adjusting, on a month-by-month basis, portfolio weightings according to those environmental ratings. Over various timeframes, these environmentally weighted portfolios outperformed the actual portfolios for every scenario (low, medium, and high tilt) in almost every asset class examined.3
- A study published in February, 2008 by the Association of British Insurers concluded that there is “a clear connection between good governance, company performance, and investor return.” Moreover, the ABI study showed that good governance is a precursor of good performance, rather than an outcome of it, and that beter governance scores tended to reduce the volatility of returns as well. Examining the FTSE All-Share Index between 2002 and 2007, the ABI concluded that stock prices of well-governed companies delivered an additional 37 basis points per month, adjusted both for industry and for risk.4
Alpha and Beta Combined
The combination of rigorous financial analysis and equally rigorous ESG analysis enables us to identify better managed, more forward-thinking companies and, in turn, create the kind of portfolios that, we believe, over the long term, have the potential to produce market-beating results.
At the same time, according to Julie Gorte, Pax World’s Senior Vice President for Sustainable Investing, “there is reason to believe that the incorporation of ESG factors is as interesting from the standpoint of risk, or beta, as it is from a strictly returns point of view.” Dr. Gorte references academic research5 that suggests that companies with better social and environmental performance tend to have lower risk at the individual stock level. Those are the kind of companies our process is designed to identify.
What does all this mean for you and your clients? We believe it means that by introducing your clients to mutual funds that employ a Sustainable Investing approach, you are giving them the opportunity to invest in portfolios with potentially higher returns and reduced downside risks.
In the final analysis, isn’t that what smart investing is all about?
1Goldman Sachs Global Investment Research, “Overview: Introducing GS SUSTAIN,” July 2, 2007
2United Nations Environment Programme Finance Initiatives Show Me the Money: Linking Environmental, Social and Governance Issues to Company Value, (Geneva: United Nations, 2006)
3Christopher Grobbel, Jiri Maly, and Michael Molitor, “Preparing for a Low-Carbon Future,” McKinsey Quarterly, November 2004.
4Mariano Selvaggi and James Upton, “Governance and Performance in Corporate Britain,” ABI Research and Investment Affairs Departments, February 2007.
5Leonardo Becchetti and Rocco Ciciretti, “Corporate Responsibility and Stock Market Performance,” Centre for International Studies on Economic Growth Research Paper Series, Working Paper No 79, March 2006.