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How to Integrate ESG into Investment Decision-Making Processes

Here, we dissect investors’ current strategies, the challenges to these approaches – and explore how thematic investing can help you to make better ESG…

Portfolio and fund managers everywhere are under pressure to integrate Environmental, Social and Governance (ESG) factors into their investment products.

With widespread acknowledgement that non-financial factors have a material impact on investment returns and risk management, how you integrate those factors into your decision-making becomes the key differentiator.

Right now, investors vary wildly in the ways they consider ESG factors for investment decisions, drawing on a plethora of different strategies, datasets and methods to try and make sense of a complex and fluid landscape.

In this post, we’ll look at how investors are currently using ESG decision-making data to guide their investment strategies and some of the key challenges that come with ESG investment decisions. We’ll also explore how CID’s thematic approach to ESG data can support you to overcome those challenges and make investment decisions that align with the criteria you value most.

How Investors Are Currently Using ESG Decision-Making Data to Guide Their Investment Strategy

Sound investment decisions are driven by sound data – and ESG considerations are no different.

In the same way that investors use traditional financial data to evaluate business performance, ESG decision making uses data to evaluate the sustainability, social or governance contexts of investments, be that an asset, facility, company or region – past, present or forecasted.

That could pertain to environmental matters like annual carbon emissions, or through a more social lens to issues like workforce diversity and human rights. Data on governance factors, meanwhile, might cover issues like corruption or the gender composition of a board.

This data can impact various stages of the investment process, from asset allocation and security selection, to portfolio construction and risk management.

But a key issue with all of this data is availability.

Because ESG data relies on public disclosure by corporates – which isn’t always consistent or forthcoming – it becomes a near-impossible task for non-specialists to establish a view of the investment landscape that is transparent enough to drive decisions.

That challenge is compounded by the nature of ESG data, which tends towards the more abstract and qualitative when compared to the traditional metrics by which financial performance is evaluated. That type of data can be much harder to gather and research, as non-financial considerations are often gleaned from narrative and context, rather than metrics.

All this has resulted in many investors using the services of ratings providers such as MSCI and Sustainalytics, who provide ESG research, ratings and data to institutional investors and companies.

The trouble is, this blanket, one-size-fits-all approach often misses the nuance that reveals the true context around an issue or factor.

Take the automotive industry. Ostensibly, the rise of electric vehicles is having a hugely beneficial impact on the environment. But from another standpoint, the industry has yet to resolve battery recycling issues and there is a widespread fightback against unionization from leadership.

ESG ratings providers can miss the detail that exposes a broader truth.

The alternative to ratings providers is investors manually researching companies to find data on ESG practices themselves.

The key issue here is the time that process takes for researchers. (Hint: It’s a lot).

Acknowledging the Challenges that Come with ESG Investment Decisions

Within this context, there are a number of broader challenges that investors face when trying to make sound ESG investment decisions.

1. Consistency of data
This is the biggest challenge facing investors when it comes to ESG: a lack of standardised reporting and consistency across current data providers.

2. Increasing volatility
This is making it more challenging to find the right balance between one’s own fiduciary duty to gain performance from a client’s assets and align with their ESG interests.

3. Tightened regulatory scrutiny
There is a fightback against greenwashing and portfolio managers that haven’t done enough to check portfolio holdings against ESG criteria.

4. The one-size-fits-all approach
Ratings providers that apply this approach miss details that mean they don’t really give you a clear indication of ESG compliance.

6. Time pressures
Investment experts spend a huge amount of time on the in-depth research required to fully explore ESG considerations, draining resources and slowing down investments.

This all points to the need for a solution that brings consistency and detail to the harvesting and assessment of data to make sound ESG investment decisions. And that’s where we come in.

Setting Your ESG Investment Criteria Parameters

Thematic investing and ESG (Environmental, Social, and Governance) are closely related because thematic investing often focuses on specific themes that are driving ESG factors, like recycling technology and its impact on the environment.

The better your thematic investing processes, the better your ability to sniff out, evaluate, and act on ESG factors.

Our Affinity platform changes what’s possible for thematic investors, and in turn, ESG research. It uses AI and a comprehensive and efficient screening process to tap into a universe of clearly defined and relevant companies according to the themes and market events your investors care about.

This not only supports investors to identify more relevant opportunities by setting tailored ESG investment criteria parameters, but also greatly reduces the time needed to research those contexts.

Affinity’s thematic approach means portfolio managers can deepen their understanding of individual ESG factors by extracting relevant insights from unstructured data sources across topics, widening the net beyond traditional providers to include everything from news and financial reports to publicly available meeting notes and call records.

It unlocks more confident, efficient, and transparent investments in stocks aligned with specific trends or themes, like renewable energy, electric vehicles, or water conservation.

That means you can prioritise the precise ESG factors that are important to your investors, without compromising on your responsibility to gain performance from their assets.

To learn how to boost ESG compliance, transparency and performance with Thematic Intelligence, take a look at our ESG research page. Or get in touch with us here.

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