There’s always been this perception that, to do value investing, you have to sacrifice returns. How does the methodology balance the need for solid returns with the investor’s desire to invest according to their beliefs?
It’s actually not about divestment. We’re not just saying, “We don’t do anything in this sector or that sector.” By choosing the best-in-class ESG leaders in each sector, you’re ending up with something very similar to the broad market, but you’ve then made a values choice in how you construct it.
Historically, the backtests for the indices have performed very much in line with their parent indices. Midcaps have shown outperformance, as have small-caps. I think the only one that showed any real lower returns was large-cap growth, and that seems to be the result of how certain technology companies are handled. Some tech companies have interesting governance setups, so that can skew things a little.
And 80% of returns come from asset allocation. As long as these indices and funds are set up to track the broader market closely, there should be very little to no cost from it. And then you also stand a chance of actually getting some outperformance because they are more efficient companies. The ones that are more environmentally efficient are also wasting less. Companies with good governance tend to be better run. Companies that don’t have controversial businesses lines tend to not get hit with so many class-action suits.
I think screening for ESG can actually improve returns. What we’re doing is really trying to match the broad market while improving on values-based investing.
ESG seems almost like a forward-looking factor in how it expects to reap the benefits of more environmentally and socially conscious practices and better governance practices. Is that a proper way to characterize it?
The idea that long-term performance can benefit from a screen for ESG factors I think is fairly well researched and stated. I wouldn’t argue with that. In terms of long-term performance, I think asking for companies that are basically more efficiently run and have good governance sounds like a fairly sensible screen.
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