Some investment managers remove companies with low sustainability ratings from their potential investment pool, either to meet client guidelines, as a risk-reduction technique or out of commitment to socially responsible investing.
A question arises whether restricting the investment pool to companies with higher environmental, social and governance ratings hurts or helps investment performance.
New Amsterdam Partners, a New York-based asset management firm, released a study on Wednesday that sought to demonstrate empirically that if a company’s ESG practices did not rise to global norms, corporate performance would be unsustainable.
The study, it said, found a clear relationship between stock returns and ESG ratings: higher return companies in aggregate had better ESG ratings.
Moreover, the study found a strong negative correlation between ESG ratings and stock volatility, especially when market volatility was higher.
The researchers said these findings implied that asset managers could get diversification benefits by choosing better ESG stocks, and this benefit would strengthen when markets were more volatile.
They concluded that excluding the worst ESG stocks from the investible universe tended to improve the return and risk-adjusted return distribution even through a process of random selection.