Type “ESG” in Google and you’ll find a plethora of articles ranging from definitions to various investment strategies proposed by different fund managers. This piece discusses the concept of ESG negative screening and how to utilise it effectively within a Not-For-Profit or ESG focused investment portfolio.
It is a common misconception that the performance of an ESG considered portfolio will often underperform a non-ESG portfolio, as the exclusion of some prominent index incumbents (due to non-financial reasons) will limit the investment choices and therefore impact financial returns. The recent outperformance of sustainable and ESG focused funds during the COVID-19 pandemic has demonstrated that a focus on responsible investing can provide increased returns at the same time as aligning with an investor’s values or ethical mandates.
As the financial world comes to grips with these new investment mandates, investors are sometimes overwhelmed by this added layer of complexity which is far from a standardised, cookie cutter type strategy. ESG investing may need to take into account both ethical considerations (social activism, peace of mind) and financial considerations (such as index tracking or alpha generation).
These days, tools that allow effective ESG portfolio screening may highlight more questions than answers. Traditionally, a screen will exclude stocks according to a specific concern e.g. a company involved in the selling of alcohol and tobacco products. The question is of course…is this automatically a reason to exclude it? The answer could be yes or no depending on the underlying principles of the investor.
A new evolving way to look at building an ESG focused portfolio is simply not to exclude a stock because it may receive a cross (such as in the example above), but to look at the ESG foundations of the company. The focus should be on the way in which a company manages ESG issues. Investments therefore tend to be in companies that are expected to be exposed to less risks in the future with regards to fines, lawsuits and reputational damage.
These considerations will often lead to a robust discussion with your adviser. Rather than using a negative screen to automatically exclude certain stocks, this process actually ignites a conversation around what aspects of ESG investing are important to you as an investor, why they are important and how best to reflect these values in your portfolio.
Common elements of ESG investing include climate change, renewable energy, fair wages, workplace diversity, political donations and corruption (and this is just the tip of the proverbial iceberg!)
We encourage our clients to discuss any concerns that they may have around these issues.
Your Morgans Adviser can run your current (or proposed) portfolio through the Sustainalytics ESG Screening Tool which will produce a framework for you to base your ESG and responsible investing considerations on.
Morgans partners with Sustainalytics,
Sustainalytics, is an ESG provider and Morgans have engaged with them to provide an ESG screening platform that provides support for any ESG related investment decisions. This service includes providing ESG risk ratings for ASX 300 companies, negative screening of client portfolios to exclude certain issues from a portfolio (26 screening issues available such as tobacco, gambling) and high-level portfolio ESG risk rating comparisons.
