Does ESG investing really have an influence on companies?

Press Release - Boston, London, Nice, Paris, Singapore, Tokyo, June 2, 2020

Does ESG investing really have an influence on companies?

Research questions integrated and score-based strategy on the risk of mixed message sent to companies

What motivates equity ESG investment strategies is the ability to influence the behaviour of companies through the portfolio decisions that they lead to. To this end, it is often argued that an investor who is dissatisfied with a company's ESG behaviour, and who wishes to remedy the situation, needs to stay on as its shareholder and engage with it. Indeed it is believed that if the investor divests from the company, its influence over the company will cease. Moreover, the act of divesting is often presented as a passive approach that has no bearing on the company's management, a capitulation rather than a form of action.

In a new publication entitled "ESG Engagement and Divestment: Mutually Exclusive or Mutually Reinforcing?" Scientific Beta argues that both divestment and engagement are actions that promote change and illustrates the empirical results of academic studies showing that both approaches can be effective.

This paper also demonstrates that these two strategies are entirely compatible: the rise of collaborative engagement campaigns, in which current and potential shareholders combine their forces, are testimony to the fact that divestment does not put an end to an investor's possibility to engage with a company. Divestment and engagement are hence not mutually exclusive and reinforcing.

Those who deem ESG divesting strategies incompatible with engagement sometimes see integrated ESG mixing strategies as a good match with ESG engagement. Unfortunately, this type of approach, which means that the weight of a stock is a result of both its financial and ESG characteristics, can lead to investment policies that are totally inconsistent with the stated objectives of the strategy. As an illustration, Scientific Beta shows in this paper that as far as Low Carbon strategies are concerned, the score-tilted or optimisation-based approaches can certainly lead to a strong reduction in the portfolio's overall carbon score while at the same time increasing the investments in the most carbon-intense companies.

In contrast to ESG mixing strategies, top-down ESG strategies that use straightforward ESG filtering to do this, i.e. removing the worst ESG performers from the investable universe, concentrate the divestment on the ESG laggards and send clear-cut signals to all companies and stakeholders. In combination with ESG engagement, in particular through collaborative ESG campaigns, ESG filtering lays the ground for an effective ESG investing policy.

The Scientific Beta white paper can be accessed through the link below:

ESG Engagement and Divestment: Mutually Exclusive or Mutually Reinforcing? May 2020, Scientific Beta Publication

As part of its policy of transferring know-how to the industry, EDHEC-Risk Institute has set up Scientific Beta. Scientific Beta is an original initiative which aims to favour the adoption of the latest advances in smart beta design and implementation by the whole investment industry. Its academic origin provides the foundation for its strategy: offer, in the best economic conditions possible, the smart beta solutions that are most proven scientifically with full transparency of both the methods and the associated risks.
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