With the rising popularity of ESG investment among investors, it falls on advisors to find which funds and companies are truly values-oriented. This need hasn’t escaped the notice of ratings firms, which are coming out with new scoring systems to help both investors and advisors.
But to truly assess companies’ ESG potential and performance, one has to go beyond the score. “Some data providers, such as MSCI or Sustainalytics, generate scores for public companies based on their performance on ESG measures,” explained Catherine Banat, director of US Responsible Investing for RBC Global Asset Management, in a recent piece on ThinkAdvisor.
Aside from the fact that they’re usually backward-looking and updated semi-annually at most, she said that such scores are diverse because they are based on qualitative analyses. An examination of ratings from two leading providers, she claimed, proved them to be only 50% correlated — and often inversely related.
And while companies may disclose data on ESG issues such as water usage, worker safety, and emissions, their disclosures tend to be reported in ways that are inconsistent with each other.
Quantitative scoring, she added, does not accurately reflect many of the material issues that matter to responsible investors. That means in addition to externally provided ESG research, an advisor should perform their own complementary analyses, which may include direct engagement with companies to assess how they manage ESG-related risks and opportunities.
To evaluate a manager or advisor, Banat said, investors may ask questions such as:
- How does a manager approach ESG? Do they depend on outside data providers or also do their own fundamental ESG research?
- What process does a manager follow to integrate ESG considerations into a fund? While there’s no right answer, the manager should “explain in a granular way how ESG fits into the investment process and how it adds value.”
- Is the manager a signatory to the UN’s Principles for Responsible Investment? If so, what score have they achieved?
- Does the manager do active engagement with issuers on material ESG issues? Those who do should provide investors with granular reports of their engagement activity to demonstrate how effective their program is.
“Any outside data source is still additive to your own research, and the hard work by your portfolio managers,” Banat stressed. “The inconsistencies with company report ESG data means there is no substitute in-house ESG analysis and for sitting down with boards and corporate managers and asking tough questions — the same tough questions any good fundamental analyst asks to get a true picture of a company’s worth.”
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