Nearly 36% of factor investors that had integrated Environmental, social and corporate governance within their strategies exceeded their returns, according to the study by Invesco
Investors that integrate ESG (Environmental, social and corporate governance) within their factor strategies are twice as likely to outperform expectations, new research shows.
The study by Invesco revealed that 36% of factor investors that had integrated ESG within their strategies exceeded their return expectations in the past 12 months compared to 19% that did not.
They were also less likely to report underperformance, with just 14% doing so compared to 18%.
The growing popularity of ESG means that three-quarters of institutional and wholesale investors see it as valuable signal for security selection.
Sentiment has improved significantly in the past year, with the percentage of institutional investors that think that ESG complements the performance of factor strategies rising to 64% from 45% in 2019.
A majority of institutional investors (85%) said ESG boosted returns and helped manage risk (90%).
Very few said ESG as detracted from performance, with 92% observing either a positive or neutral effect on their portfolios.
The study uncovered similar views from wholesalers, who saw benefits in particular from the ability to manage factor-specific risks, such as value traps.
Some investors told us that ESG had helped them weed out poorer-quality firms, and others suggested that it offered a means to manage short-term downside while providing long-term potential upside, said Georg Elsaesser, senior portfolio manager of quantitative strategies at Invesco.
These are interesting findings, but we should interpret these statistics cautiously given they don’t capture the individual circumstances of each investor. One explanation for this outperformance could be the avoidance of struggling oil and gas stocks, which are of course usually excluded from ESG-oriented portfolios, Elsaesser said.
The study questioned 138 institutional and 100 wholesale factor investors, together responsible for managing over £19.27trn ($25trn) in assets.
The number of investors undertaking factor exposure analyses on their ESG portfolios has risen sharply in the past year, rising from 34% to 58% for institutional investors and 29% to 53% for wholesale investors.
However, despite this growth challenges to further adoption persist, the report said.
ESG initiatives have traditionally come from the top of an organisation, as a governing body decides it is necessary to commit to ESG. However, factor considerations tend to start further down, often by a specific asset class team.
ESG is also sometimes managed by a separate, non-investment team which requires open channels of communications with investment teams to prevent opportunities being missed.
Resource requirements to conduct the analysis, such as qualified professionals and systems, can also be prohibitive.
While ESG and factor are becoming increasingly integrated, the concurrent adoption of both appears to be causing challenges for some investors that used to implement them independently of each other, said Elsaesser.
Elsaesser said, this is especially true as many factor products are not ESG integrated, and most ESG products are not factor strategies. More knowledge transfer on how factor strategies can implement ESG is needed – and this may even improve a portfolio’s risk/return characteristics.
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