Does Sustainable Investing have to cost performance?
What you need to know
- Responsible investing not an EITHER/OR choice, but an AND: does choosing to invest responsibly cost investment performance? The evidence says NO, that you can choose a sustainable/responsible investment strategy and outperform non-sustainable benchmarks.
- SRI, ESG, Low Carbon and Clean Energy indices have outperformed over the last 5 years: since 2016, general SRI/ESG indices as well as more specific low carbon/clean energy indices have all outperformed World and Europe benchmark indices to a greater or lesser extent.
- Sustainable/responsible investing indices have also suffered lower drawdowns in corrections: in 2011, 2016 and 2018 stock market correction phases, SRI indices fell less than corresponding World and Europe benchmark indices.
- If you buy ESG/SRI exposure, you are buying quality: according to EDHEC-Risk, ESG outperformance is mostly due to a quality factor bias. In our view, this is positive as the quality factor has delivered superior long-term returns at lower downside risk than benchmark indices.
- Reducing exposure to tail risk: Implementing improvement in Environmental, Social and Governance issues reduces tail risk for investors, including stranded asset risk in fossil fuels and corporate governance risks from fraud and lack of risk control, thus reducing idiosyncratic risks.
You CAN invest sustainably without sacrificing performance
If I invest sustainably, will my investments fare worse?
This is the key question that many clients ask us when we discuss sustainable investments, via managed funds or passive index ETFs. They are understandably concerned that a choice to invest in a sustainable fashion does not imply a worse investment performance as a result.
If we look at the performance of a number of sustainable investment methodologies in equities, as that is the most well-established form of sustainable investing, we can answer NO.
In fact, over the last five years or so, a range of sustainable equity indices have actually outperformed standard non-sustainable benchmark stock indices such as STOXX Europe or MSCI World.
Not only better average performance, but also at lower risk: over the period since January 2016, admittedly a limited dataset but the period over which sustainable investing has been developed, this better performance has been achieved with lower drawdowns than for benchmark indices. From 2016 to June 2021, the MSCI World index suffered a maximum drawdown from peak of 21% (at end-March 2020, during the initial COVID-19 crisis), using end-month data.
By comparison, the MSCI World SRI index suffered an 18% drawdown by March 2020, the MSCI World ESG Leaders Select 20% and MSCI World Low Carbon SRI Leaders 19%.
So all three sustainable investing indices achieved a better overall performance from 2016, and with lower downside risk during the early 2020 stock bear market than for the benchmark MSCI World index. Looking at Europe-based sustainable indices against the STOXX Europe benchmark index, we reach a similar conclusion of a better average performance, achieved at slightly lower downside risk.