Sustainable Investing Performance
Key facts and figure
Since the appearance of sustainable investment as an investment theme, its financial performance has been analysed by many studies and the conclusion is very clear: 90% of sustainable investments do not give lower results than traditional ones.
Investment integrating ESG factors including decision-making issues related to the fight against climate change or the energy transition have beaten stock market indices that did not consider these investment biases.
The financial profitability of sustainable investments
- The concept of sustainable investment has evolved. It is relatively modern. As mentioned in our #1 episode, we could date it back to 1987 in the well-known report of the World Commission on Environment and Development named "Our Common Future".
- However, throughout history, we can find investment examples that were not only focused on financial return but also extra-financial return.
Some of these examples are
- the Scholastic School and its Analysis of Usury and Fair Price;
- the use of non-financial criteria in the 17th century by the Quakers
- the creation of the Pax World Fund in the 20th century supported by two ministers of the Methodist church.
In recent years, there have been great investments with integration of Environmental, Social and Governance (ESG) criteria in mutual funds and other assets (green bonds, social bonds, etc.).
In addition to generating an extra financial return (measured through ESG indicators, social and environmental impact indicators, or with the exclusion of certain sectors), we could ask ourselves whether this type of “sustainable” investment is more or less profitable than a “traditional” one.
Over the last few years, there have been many studies on the subject, but there is one that brings together 2,000 studies. Gunnar Friede, Timo Busch & Alexander Basen, conducted it in 2015 (ESG and Financial Performance: aggregated evidence from more than 2,000 empirical studies published in the Journal of Sustainable Finance & Investment). The conclusion was very clear: 90% of the studies find no negative relationship between the evolution of financial performance and the integration of ESG factors, and 62% find a positive correlation.
Nevertheless, perhaps the clearest evidence comes from the analysis of the main investment strategies we can currently include within sustainable investing and their evolution over the last 5 years:
- Socially Responsible Investments (SRI), through indexes such as the MSCI World SRI index.
This is an equity index of 23 developed countries including large and mid-cap companies highly rated on environmental, social, and good governance indicators, and excluding companies with products that have a negative social or environmental impact.
This index has generated +14.1% annual return since 2016, outperforming its equivalent index without ESG bias by more than 1.1%.
- Investments with ESG criteria integration, through indexes such as the MSCI World ESG Leaders Select.
This equity index invests in companies that show better ESG indicators compared to their sector of activity. It is an aggregation of sub-indexes investing in Europe, the Middle East, Asia Pacific, Canada, and the USA.
This index has generated +13.9% annual average return since 2016, above its equivalent non-ESG biased indexes.
- Climate change-related investments, through indexes such as Euronext Low Carbon.
This is an equity index composed of European large and mid-cap companies with better ratings on climate indicators and carbon emissions.
This index has generated a +7.1% annualised return since 2016, above the 6.3% of its Stoxx Europe equivalent.
This sample of sustainable investments not only has a slightly higher financial return over the last 5 years but also benefits from a lower risk profile.
The profitability factor of sustainable investments
- Having analysed a large sample of examples indicating that the profitability of sustainable investments is ‘equal to’ or ‘better than’ that of classic investments, the second question we will try to answer is what is the origin of this positive bias?
- Gunnar Friede, Timo Busch & Alexander Basen's meta-analysis indicates that, based on 644 studies that analysed the relationship of Environmental, Social, and Governance factors and performance, the highest correlation found with performance is with the Governance factor (62.3%), then the Social factor (55.1%) and third with the Environmental factor (58.7%).
- However, the main fact is that requiring companies to fulfill other ESG management criteria, in addition to the correct use of their financial capital, improves greatly the quality of their decision-making. Over time, it generates more sustainable investments, not only in terms of duration and profitability but also in terms of impacts, such as helping to reduce climate change, aligning the ethical or moral interests of the investor, or generating positive impacts on society.
- In addition to the ESG criteria, there is another element highlighting the better performance of this type of investment, the momentum or the inflow component. During the last few years, this type of investment has been gaining interest and weight in investors' portfolios. This generates investment flows towards a range of assets (stocks, bonds, etc.) of companies with the same bias, which favors a better performance of these securities.
The fact is that these inflows continue to grow for the moment. However, over time this effect will be reduced, as the number of companies that will apply these criteria in their management will increase. Investment universes will become more similar. However, there will always be more specialised investment niches that will continue to be the focus of interest for our investors.
Discover our other episodes throughout the summer. Around the theme of sustainability, they address the role of the financial sector in different Sustainable Development Goals, and allow you to identify how you, as an investor, can act for a better and more sustainable future.