A look at index provider’s ESG fund rating system

It offers to ‘boost investor transparency’ on alignment with client values, sustainability of investments, and other measures

A look at index provider’s ESG fund rating system

Investors used to the letter-based system used to rate bonds will likely appreciate the new approach to ESG fund evaluations unveiled by a major research and data provider.

In an announcement last week, MSCI revealed that it had added environmental, social, and governance ratings to 32,000 of its funds and ETFs in a bid to “boost investor transparency,” reported ThinkAdvisor. The system scores funds on a scale from AAA (leader) to (CCC) laggard.

“The MSCI ESG Fund Ratings are designed to provide investors with greater transparency to better understand the ESG characteristics of fund and ETF components of their portfolios,” MSCI head of ESG Remy Briand said in a statement.

Complementing the usual due diligence on fund managers, the new ratings let investors get a bead on funds based on how they align with client values, the sustainability of their investments, and the degree of positive impact made by those investments. They include 200 additional metrics such as carbon footprint, water exposure, and governance risks to provide a richer picture of a fund’s ESG profile.

To evaluate a fund or ETF, MSCI takes the weighted average score of its holdings. Afterwards, it assesses ESG momentum with a look at the fund’s ESG track record; a statement from the firm says this is meant to “indicate a fund’s exposure to holdings with a positive rating trend or worsening trend year on year.”

“Finally, MSCI reviews the ESG tail risk to understand the fund’s exposure to holdings with worst-of-class ESG Fund Ratings of B and CCC,” the statement said.

The firm has applied its ESG rating system to a broad swath of 32,000 multi-asset class mutual funds and ETFs around the world. Describing the results in a recent blog post, Michael Disabato, senior associate for ESG Research at MSCI, noted that the number of highly rated ESG equity and bond funds hosted by Europe was 33 times larger than those in the US, which held only four AAA ESG funds.

“This is not surprising as European ESG funds are held to a higher standard by EU regulators,” Disabato said, explaining that funds claiming to incorporate ESG into their investment process must meet a minimum standard that’s stricter compared to those required the US market. That restriction to a pool of higher-quality companies, along with longer-steeped ESG demand compared to the appetite that’s just brewing in North America, has naturally enabled higher ratings for EU ESG funds.

“Japanese managers also stood out as leaders in offering ESG funds,” Disabato said. One factor that could have led to that, he said, is the emphasis placed on particular ESG investments by the Government Pension Investment Fund — which the world’s largest asset owner — beginning in 2017.


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