Impact investing comes alongside lower investment performance! Really?
According to the GIIN’s definition, “Impact investments are investments made with the intention to generate positive, measurable social and environmental impact alongside a financial return”. In the liquid investment space, common wisdom in the mind of investors is that the financial return that comes alongside impact investing is generally lower than the return obtained from market indices. In this document, we show that it is not necessarily the case.
Impact investing in the liquid equity space
First and foremost, there is a significant difference between ESG investing and impact investing. ESG scores provide a measurement of a company’s business practices in the Environmental, Social and Governance areas. Impact metrics on the other hand measure how a company’s products, services and technologies contribute to accelerate the transition to a more sustainable economy. A company may be awarded a good ESG score but have a negative impact. A good example is the mining company Rio Tinto (MSCI rating A) whose activities have a negative impact on biodiversity and land use.
For the Asteria Planet Global Equity fund, we screen a universe of 3’000 liquid firms to find companies whose products, businesses and services contribute to decrease pollution, accelerate decarbonization, provide safe and clean water and improve energy efficiency. In order to do so, we rely on the revenues generated by the companies in positively contributing activities. Out of more than 500 existing activities, we identified 65 activities that contribute positively to the fund’s impact objectives and 56 that contribute negatively. For instance, the sawmills and wood preservation activity contribute to decrease carbon emissions whilst truck transportation has a negative contribution. We systematically score each company of the universe by mixing the percentage of revenues and the absolute value of revenues in each of these activities. Companies that contribute positively will receive a positive score whilst negative contributors will receive a negative score. Companies with businesses that neither contribute positively nor negatively will receive an impact score of zero. The scores are then re-scaled to lie between one and minus one.
The performance of impact strategies
The effect of impact on performance is assessed with a portfolio sort approach. Between January 2nd, 2015 and November 21st, 2020, we sort all the securities of the MSCI World ACWI into five portfolios based on their impact score. Portfolio 1 contains the 20% of companies with the highest impact score and portfolio 5 contains the 20% of companies with the worst impact score. The portfolios are equally weighted and rebalanced at the end of each quarter based on their updated impact scores. If impact is detrimental to performance, we should find that the high impact score portfolio (Portfolio 1) under-performs the market. In the same vein, the low impact score portfolio (Portfolio 5) shall not under-perform relative to both the market and the high impact score portfolio. Note that the MSCI ACWI universe has not been filtered for controversies, low ESG scores or for companies with below-average financials.
*Figure 1: Performance of impact portfolios
From Figure 1, we can see that companies that had a high impact score did not under-perform the MSCI World ACWI index. The annualised return of the high impact portfolio was 4.9% higher than the annualised return of the index. Furthermore, the low impact portfolio under-performed both the high impact portfolio and the index by an average of respectively 7.3% and 2.4% per annum. Table 1 reports the return statistics for the three portfolios. The high impact portfolio had a lower standard-deviation than both the index and the low impact portfolio.
Overall, our results contradict with the general view that impact and performance are not compatible. It is possible to select companies whose businesses, products and services contribute to accelerate the climate transition without sacrificing financial returns. This acknowledgement drives the investment philosophy of the Asteria Planet Global Equity fund who seeks to allocate capital to companies that contribute to accelerate the climate transition whilst achieving a long-term performance that is in line with global equity markets.
*Source: S&P, Truecost
Data as at: 25/11/2020