RI in times of COVID: How are responsible investments performing?

By Simon O’Connor, CEO, Responsible Investment Association Australasia


In a time of massive market disruption brought on by the global COVID-19 pandemic, it would be fair to ask how ESG investors have performed compared to the rest of the market.


We have long argued that responsible investment, including the analysis of ESG risks, should help us to identify a broader array of factors that are driving markets and returns, and with that should help us to navigate times such as these, to avoid the most significant risks and to capture more opportunities.


In many ways, what we have just navigated in the first months of 2020 is the most significant test of this theory and so it’s worth assessing how responsible investments have held up.


Pleasingly, there is now an extensive base of evidence that is consistently demonstrating that RI has delivered with flying colours with more sustainable companies performing better and RI investment funds having outperformed the general market.


The following sets out some of this research:


MSCI has written up a useful comparison of their ESG indexes compared to their parent indexes for the first quarter 2020 highlighting that the COVID-19 pandemic “is the first real-world test since the 2008 global financial crisis of the resilience of companies with high MSCI ESG Ratings”.


As per the chart above, the four ESG indexes comprehensively outperformed their parent MSCI ACWI index from 1 January to 30 March 2020 with MSCI concluding this was largely “attributable to the systematic tilt of these indexes toward higher ESG-rated stocks, similar to what we observed over the past five years.”


AXA Investment Managers also undertook an analysis of how leading ESG companies (issuers) had performed in this first quarter compared to laggards, applying their research across equities and bond markets.


AXA IM concluded unequivocally that “Companies with the highest ESG ratings have proven more resilient in the coronavirus market crash than those with the lowest.” Their findings highlight that ESG leaders not only outperformed the benchmark MSCI ACWI index (>5% outperformance), but left the ESG laggards for dead with a staggering outperformance of 16.8% points in Q1 2020.


Uniquely, AXA IM also applied this same analysis to the bond market and found a similarly significant outperformance, of 5.2% points of ESG leaders over ESG laggards in that same time period as well as an outperformance against the benchmark.


But responsible investment is not all just about ESG, with many leading responsible investors also employing strong exclusion policies to screen out sectors. A frequently argued point is that this could risk limiting the universe of stocks available to fund managers and so leave them more exposed to market changes.


So it’s again helpful to look at AXA IM’s analysis on this point, finding that when assessing the impact of their company wide exclusion policies, “that a portfolio of stocks which apply our exclusion lists outperformed the parent benchmark index by 47 basis points.” (Same research as linked above, with further analysis here).


Fidelity International’s Investment Director wrote up their analysis of 2600 companies to understand the link between their ESG characteristics and their performance during the market downturn, specifically looking between 19 Feb and 26 Mar.


“Here are the salient numbers. Between February 19 and March 26, the S&P 500 index fell by 26.9pc. During the same period the companies rated most highly on ESG characteristics fell by 23.1pc. Those rated worst fell much more than the market as a whole (down 34.3%) while the companies in between traced a straight-line correlation.”


Research by Schroders articulates the thesis well:  “In terms of performance, we have long argued that sustainable companies should have lower declines due to lower incidence of controversies and occupational mishaps; greater loyalty from customers, employees and even shareholders; and often more conservative balance sheets.”


Their research then follows to test this hypothesis citing leading ESG indices outperforming their mainstream indices – e.g. “the FTSE 100 ESG Leaders index returning -27.3% year-to-date compared to -33.7% for the FTSE 100 index” – and citing evidence of ESG leading stocks outperforming broader markets.


Recently published research by BlackRock argues that COVID-19 has presented a key test of our conviction of responsible investment. Encouragingly, their analysis concluded that “In the first quarter of 2020, we have observed better risk-adjusted performance across sustainable products globally, with 94% of a globally-representative selection of widely-analysed sustainable indices outperforming their parent benchmarks”.


But three months is a short time – most responsible investors have a much longer time horizon, and so we should be cautious looking at such a narrow moment in time.


Nonetheless BlackRock’s research highlights that in similar notable market downturns in recent years, the findings have been consistent – that is that sustainable indices outperform their non-sustainable counterparts. This is not a fluke, but a consistently proven pattern of results.


And this message is getting through – in this downturn, where outflows accelerated across many funds, sustainable funds continued to see strong inflows with BlackRock finding record inflows to sustainable funds in the first quarter of 2020.


Schroders’ research also highlights a similar finding highlighting that ESG ETF’s have been more resilient to the rush of outflows compared with mainstream ETFs.


Schroders concludes that “it seems to us that this crisis has actually increased the visibility and perceived importance of sustainable business practices.” Whilst BlackRock summarise that “We believe these inflows during a period of extraordinary market drawdown suggests a persistence in investor preferences toward sustainability.”


In summary, this is all strongly supportive of the thesis long argued and demonstrated that responsible investment supports stronger investment outcomes for our beneficiaries whilst also supporting investments in more sustainable companies and assets at a time of one of the toughest tests of markets possible.


As a test of this thesis, it’s pleasing to see this playing out in real time, despite the tragedy that is playing out in so many parts of the world. Done well, responsible investment can not only help the investment outcomes for our beneficiaries, but invest in a way that helps us navigate to build a more sustainable and resilient world that is structured to avoid the worst such outcomes.