Pengana Capital Group has suggested that companies actively improving their ESG credentials are “well-placed” to deal with the risk that interest rates and inflation remain higher for longer.
Bradley Amoils, fund manager for the Pengana Axiom International Ethical Funds, said the market typically undervalues companies which are improving their ESG footprints.
“ESG is known to generate alpha. But it takes a while for the market to catch up with companies making positive change,” he explained.
“It is unanticipated change, which can drive share prices. The opportunity is to find companies actively improving their ESG before this is priced into the market.”
Mr Amoils highlighted research from Rockefeller Asset Management which determined that the market tends to overvalue ESG leaders but undervalue ESG improvers.
According to this research, between 2010 and 2020, the top quintile ESG improvers outperformed the bottom quintile by 3.8 per cent annually across US all-cap equities.
“Alpha generation is more likely via companies which are actively improving their ESG, as compared to established ESG leaders,” Mr Amoils noted.
In addition, analysis of MSCI’s ESG data by investment management firm AllianceBernstein found that companies which received ESG rating upgrades outperformed an equal-weighted MSCI ACWI Index during the following year by 0.93 per cent, while companies that received ESG rating downgrades lagged behind.
In light of this research, Mr Amoils argued that ESG improvers can build a degree of resilience in an investment portfolio, which he said was an important factor to consider given the current uncertainty that interest rates and inflation may remain sticky.
“Companies which treat their employees better reduce turnover costs, and those upgrading their corporate governance frameworks can deliver superior shareholder returns,” he said.
“These improvements suggest a dynamic company and are key indicators regarding the underlying quality of the company and its management.
“However, they will be a more attractive investment if also linked to structural changes happening in the economy, such as demographic shifts or disruptive technologies. This provides more resilience to challenges such as inflation and higher interest rates.”
According to the firm, companies with leading or improving ESG scores performed better than their peers with poor or worsening standards largely due to the underperformance of the laggards rather than the outperformance of the leaders.
“For investors, avoiding the ESG laggards, and those whose standards are slipping, is a crucial way to capture the ESG premium,” commented Federated Hermes’ senior global equities portfolio manager, Lewis Grant.
