The integration of environmental, social and governance (ESG) issues into investment research has become increasingly important for the buyside. However, there has been a debate as to how these stocks would perform in a stressed environment. Research from Morningstar shows that they have proved their mettle, beating conventional exchange traded funds (ETFs) and passive strategies in the current Covid-19 driven market volatility.
The data and research group found that actively managed Europe large-cap blend and UK large-cap equity ESG funds, on average, outperformed their non-ESG rivals. In fact, the UK recorded the largest returns where the average ESG fund fell 14% against 16.8% for their non-ESG rivals. On the big picture front, the MSCI World stock index slid by 14.5% while 62% of global ESG focused large-cap equity funds outshone the global tracker.
According Hortense Bioy, Morningstar’s director of passive strategies and sustainability research for Europe, companies that score high on ESG tend to be large well-run businesses that favourably treat their stakeholders, address their environmental challenges, have more conservative balance sheets, as well as lower levels of controversies. Not surprisingly, perhaps, these types of companies are typically more resilient during market downturns.
In addition, Morningstar attributes some of the outperformance in this particular period to the fact that many of the ESG funds avoid sectors which often score less well on ESG metrics such as airlines and oil companies. These industries have been particularly hard hit in the Covid-19 fuelled stock market downturns due to the virtual ban on travel imposed over the past month in many developed and emerging countries.
Separately, in a note at the end of March, Bank of America Merrill Lynch analysts said that, from the S&P 500 index peak on Feb. 19, stocks that scored in the top quintile on ESG metrics had outperformed the market by over five percentage points. They said the result was “nearly identical” on a sector- and size-adjusted basis while the top 50 most over weighed stocks by ESG funds had done better than the most underweighted by over ten percentage points.