ESG vs non ESG portfolios, 2020 as a milestone in a history of resilience

2020 has proved to be a year of great volatility on markets. COVID-19 crisis led to huge drawdowns in the first quarter, but then markets recovered, driven mainly by the supportive policy measures implemented by central banks and governments. In this context, ESG portfolios showed resiliency and the ability to deliver superior performances with lower volatility compared to non-ESG strategies.

After the dramatic drop in March, major markets recovered significantly. This resurgence has been driven mainly by the supportive policy measures implemented by central banks and governments, leading to the best quarter for stocks since 1998 and to closing the year in green territory for most of the major geographical areas.

An ever-increasing number of portfolio managers discloses to include ESG criteria in their investment process. Although socially responsible funds do not guarantee a positive financial performance, historical returns analysis has shown that a company particularly attentive to ESG criteria has a lower risk of incurring into frauds, scandals, sanctions and reputational damages. At the same time, the exposure to sustainable investment themes (e.g. renewable energy, circular economy, healthcare and well-being thematics, demography issues, social and Green Bonds), have been able to generate higher returns compared to non ESG-focused funds, both in the long term and during periods of high volatility like in 2020.

In this context, empirical evidence demonstrates that over the last three years, the main ESG global equities and bonds indexes have outperformed the corresponding non-EGS benchmarks. As an example, the MSCI World ESG Leaders index has outperformed the traditional MSCI World by +1,46%, while the JP Morgan ESG EMBI Global Diversified index has beaten the equivalent non-ESG index by +2.05% in the same period (Source: Bloomberg, end of December 2020 data).

EQUITY ESG VS NON ESG INDEXES

BOND ESG VS NON ESG INDEXES

The result of this over-performance is even more evident when comparing balanced funds’ results, and especially in 2020. In fact, sustainable funds were able to outperform their historical non-sustainable competitors, while successfully limiting volatility and drawdowns during market corrections. Furthermore, their bull capture ratio is aligned to that of non-ESG funds, thus providing a very attractive risk-reward profile for investors. For example, many sustainable balanced funds resulted in “bringing back” YTD performances into positive territory, and they succeeded in significantly outperforming most of their competitors and the whole peer groups, represented by Morningstar categories “Balanced Prudent EUR”, currently at +1,40% on a YTD basis, and “Balanced Moderate EUR” at +2,32% YTD) (Source: Bloomberg data).

BALANCED ESG PORTFOLIO VS NON-ESG PORTFOLIO

Nevertheless, we should point out the necessity for investors to avoid selecting, within the huge ESG funds offer available, those asset managers which are just applying the so-called “greenwashing”. In fact, the EU taxonomy on ESG investments will require asset managers to provide a concrete and comparable data-set of reporting documents to avoid incurring in those ones adopting a pure « window dressing » (meaning that their aim is just to include their funds into ESG screenings). De facto, this misleading approach is more the result of a mere “marketing” strategy, rather than a true commitment to sustainable investments.

In this context, GreenEthica by FIA Asset Management has developed an internal proprietary ESG scoring system applied to fund managers. It is based on the ESG analysis adopted within their investment processes, as well as its “weight” for the final decision on investments, with a specific screening on investments which are aligned to the 17 SDGs (UN Sustainable Development Goals). The fund analysis is extremely accurate, since both qualitative and quantitative parameters are considered, and it allows us to spot specific « greenwashing » attempts. Besides, it provides the investor also the measurable figures of how much its investment is contributing to the sustainable transition and to the achievement of the 2030 Agenda for Sustainable Investments of the United Nations.

As a proof of the validity of the method, the fund Best of SRI Balanced (which embrace the above mentioned proprietary approach) resulted in delivering an outstanding performance of +11,70% in 2020, outperforming its peer group by more than 9% and being awarded by 4 stars Morningstar for the results achieved and for its superior risk/adjusted return profile.

The current market environment and COVID-19 crisis proved to be a successful test for the ESG investment approach. During the whole 2020, the returns of sustainable balanced funds ranked in their category’s best quartile. The main reason is attributable to the fact that these funds has benefitted from their ESG screenings and analysis. Eventually, these funds proved to be more resilient during market corrections, with limited maximum drawdowns, while taking advantage of the later market uptrend.

By Gianluca D’Alessio, Senior Portfolio Manager at GreenEthica by FIA A.M.