Why sustainability matters?
By Yannick Ouaknine, Societe Generale
Published: 18 January 2019
Sustainability matters differently for different entities. For listed corporations and multi-national companies, it mainly revolves around Corporate Social Responsibility (CSR) or Corporate Sustainability where companies demonstrate accountability through environmental and social efforts that go beyond regulatory requirements. For entities in the sustainability research or investment space; Environmental, Social and Corporate Governance (ESG) research of companies could be a good proxy to better grasp and anticipate future financial risks and/or opportunities. This brings us to the broad concept of “Sustainable investment”, an area which has been evolving rapidly for the past few decades.
Sustainable Investment has been described in many ways based on diverse cultural and historical interpretations of the term; a universally accepted definition is yet to be formulated. What started as an exclusionary approach of avoiding investments in tobacco or gambling companies has now matured into integrating ESG factors in the selection of stocks/securities to build up an investment portfolio.
Investors are “pragmatic”
In theory, it might be difficult for investors to apply this kind of strategy, as wealth maximization and protection are typically the main purpose of investing.
In truth, hedge funds (as other types of investors) have been very “sceptical” about ESG for various reasons (i.e. challenging their ethical, religious or philosophical roots / lack of commonly-agreed definition / lack of common set of indicators / cultural biases…). But the reality is now much different, as increasing transparency and recent controversies moved ESG to the center of investment-making decisions.
The rational of the global momentum around sustainable investment can be summarized as follows:
- the fiduciary duty principle,
- recognition that ESG factors play a “material” role in determining risk and return,
- rising concern about the impact of short-termism on company performance, investment returns and market behaviour,
- regulatory requirements (leading to more transparency),
- new appetite from end-investors to align convictions and investment ideas,
- the proven financial performance attached to those metrics,
- and finally, avoiding reputational risks from issues such as climate change, tax ethics…
From theory to practice: Leveraging on corporate governance to create financial outperformance
It seems (that) ESG gains more and more traction but how to demonstrate the value creation of adding ESG metrics in the investment process? And how to combine metrics the right way to demonstrate long-term value creation? At Société Generale Corporate & Investment Banking (SG CIB), we believe we have found a way to do this applying the following metrics which incorporates corporate governance as a differentiating factor (considering a mix of quantitative, qualitative financial parameters).
Investment philosophy: Underpinning our CEO Value stock selection is the idea that a company that has relatively sound corporate governance principles but that has underperformed peers over four years should see a turnaround in its share performance. Sound corporate governance principles should enable a company to address its weaknesses, or at least prevent deterioration, either by changing its strategy or management – or both.
Stock selection process: Our CEO Value proprietary screening tool (launched in April 2006) is built using a bottom-up approach. We apply this screening tool to the Stoxx 600 index to obtain a list of European companies that we think can deliver a positive message to investors over the following two years, and which are thereby likely to outperform – and in this we also have a clear large cap bias.
If you would like to know more about our product (that has more than ten years of a real track record), please do not hesitate to contact us.