Harnessing the power of ESG risk premia in systematic investing

Jessica Phalafala, Quantitative Analyst, Prescient Investment Management

Socially responsible investing (SRI) has undergone a profound evolution since its origins in colonial America, where religious groups abstained from investing their endowment funds into anything associated with the slave trade. Centuries later, it transformed into mutual funds screening out investments that were directly or indirectly associated with gambling, alcohol and tobacco.

SRI was further used as a tool to express the moral values of institutional investors and their support for historical movements. As a case in point, during the apartheid regime in South Africa, many global mutual funds screened out companies that were engaging in business in the country.

At the dawn of the 21st century came a heightened global awareness of the myriad of acute challenges we face as a planet, ranging from climate change, socio-economic inequalities, and the rise of unjust and exploitative institutions. This heightened the awareness of the need to introduce responsible investing methodologies that were significantly more extensive and far-reaching than the traditional screening approach.

The term Environmental, Social and Governance (ESG) investing was first coined by the United Nations Global Compact in 2004 and involved the systematic integration of these factors into the investment processes of financial institutions. ESG investing has since gathered significant momentum and continues to gain traction in line with the fundamental shift in investor perceptions as they recognise the material impact ESG factors can have on investment returns.

The United Nations-supported Principles for Responsible Investment (UNPRI) were launched in 2006, with just over 60 signatories representing $6.5-trillion in assets under management. Support for the UNPRI has since exploded, and now it has more than 3 000 signatories, representing $103.4-trillion in managed assets, all of whom are committed to integrating ESG factors into their respective investment processes.

This remarkable growth in ESG investing can be ascribed to the growing evidence that ESG-related performance may be a proxy for company productivity and stability, thereby providing an additional source of excess returns. Risk premia strategies have been used for decades in systematic investing as a method for harvesting excess returns.

This is achieved by investing in factors that have been proven academically and in practice to provide the investor with a positive payoff for undertaking the risk associated with each factor. Commonly used risk premia include the value risk premium, which is the excess return derived from companies that are trading at a low-price relative to their fundamental value; the momentum risk premium, which favours stocks that have displayed a sustained positive return trajectory over a given period; and the market risk premium, which is the differential between the market yield and the risk-free rate of return.

These factors have all been proven to yield higher long-term risk-adjusted returns. The overwhelming evidence confirms that using ESG factors in the portfolio construction and security selection process based on factor analysis and risk premia strategies allows investors to yield additional risk-adjusted returns.

The logic that value-creating ESG-related practices contribute to company outperformance upholds the thesis. For instance, a well-managed company that adheres to environmental and social regulations is less likely to face litigation, the higher costs associated with the management and disposal of hazardous waste and elevated employee injury rates.

Therefore, ESG factors may provide better insight into the probability distribution of company returns in the same way as the traditional risk premia incorporated in classical asset pricing frameworks. Also, ESG factors are strong candidates for inclusion in long-term factor investing. They display strong explanatory power over a wide range of securities, offer a positive payoff over reasonably long horizons, have a significantly low correlation with other factors and, above all, they make intuitive and economic sense.

In identifying ESG factors as risk premia, the systematic investor needs to move beyond traditional screening methodologies and policy implementation towards a rules-based, scalable and measurable ESG integration strategy. To do so requires practical, quantifiable metrics  that can be readily integrated into an existing investment process, together with other strategies to construct a well-diversified portfolio.

To this end, we have developed the Prescient ESG Scorecard which is an in-house risk analysis tool designed to evaluate and measure the ESG risks and opportunities associated with the credit and equity counterparties in which we invest. It is a data-driven and systematic scorecard that rates companies relative to their sector-specific peers while accounting for industry materiality and market cap biases. We employ over 60 metrics to gain granular insights into the proficiency of the ESG practices of the underlying counterparties.

Each of the metrics is conscientiously identified and selected to address a broad range of globally recognised material ESG themes. These themes include board and workforce diversity, board structure, water usage, greenhouse gas emissions and the safety of employees, to name a few. A combination of extensive ESG research, active engagement with our investees and this cross-sectional scoring tool has significantly enhanced our ability to integrate ESG into our investment process alongside the traditional risk premia we consider. It also enables us to interrogate practices that historically eluded systematic investors.

The last decade has seen ESG find a permanent place in everyday investing. Its rise in popularity has shown no signs of slowing down, with Bank of America forecasting a “tsunami of assets”, as much as $20-trillion, flowing into ESG funds in the US alone over the next two decades.

At Prescient, we believe it is  our responsibility to preserve our clients’ capital by deploying it in a manner that promotes sustainability and delivers on our goal to achieve superior risk- adjusted returns. We accomplish these two goals by managing absolute and relative downside financial risk, as well as non- financial operating risk. We consider ourselves well-equipped to deliver on these twin objectives given our comprehensive responsible investing philosophy and approach, as well as our expertise as a seasoned systematic investor.

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African-Led Impact Investment Solution Launched for Global Investors

Thrive Africa creates a platform to invest in a greener, more prosperous, and inclusive Africa.

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Global leaders can create sustainability with meaningful transparency

Bt Suzanne DiBianca, Chief Impact Officer & EVP, Corporate Relations, Salesforce

The global community is facing many crises, including an ongoing pandemic, the tragic consequences of centuries of racial inequality, and a climate emergency. But this year will also bring new opportunities for companies to work with governments and individuals to rebuild and create a fairer, more sustainable future for all.

With nearly 90% of customers expecting corporations to live up to a set of values higher than shareholder return alone, global leaders need to weave environmental, social and governance (ESG) impact deep into their culture, strategy and mission. In 2021, this is a business imperative.

The impact revolution has even outgrown its own name, as 90% of the S&P 500 now produce ESG reports, and Morgan Stanley has declared that ESG will define the next decade of investing. Countries including the United Kingdom are passing mandatory private-sector climate disclosure rules, while Japan is leading a wave of nations striving to reach net zero emissions by 2050. In the EU, the Non-Financial Reporting Directive is driving additional corporate ESG transparency.

At the same time, business decision makers are seeing how impact strategies create positive flywheel effects. This pivot is a surefire growth strategy, builds positive brand reputation, increases customer engagement and builds trust with stakeholders. It is even a smart tool for employee recruitment and retention, with 70% of employees wanting to work for purpose-driven companies.

Innovation and transparency must go hand in hand

Now more than ever, CEOs no longer have to choose between doing well and doing good. ESG should be treated as a comparative advantage in a competitive marketplace, and the private sector must stay committed to innovation as well as transparency in this space. There must be accountability and standardised metrics, otherwise the rally cry for ESG will become a critique of greenwashing.

To keep impact on a growth trajectory, ESG-committed leaders first need to develop their impact strategies with intersectionality in mind. According to Accenture research, 78% of C-Suite executives say they plan to align their business strategies with sustainability challenges such as the United Nations Sustainable Development Goals (SDGs).

UN SDGs

There’s a reason the UN articulated all 17 SDGs together. We can’t solve poverty without combating hunger; gender equality is part and parcel of education reform. The fact is companies cannot silo their concerns either, and we are not fulfilling our responsibility if we think about addressing carbon neutrality or racial justice alone.

But intersectionality is only possible when we all work with one another. As the UN Foundation states, “When we act together, change happens.” Take the 1t.org initiative – a multi-stakeholder project with the goal to grow, restore and conserve one trillion trees around the world by 2030. Only a public-private partnership of scores of organisations with overlapping and complementary resources and skill sets can accomplish this ambitious target. It’s actions like these that are urgently needed across all sectors to solve the UN SDGs.

Valuing purpose and measuring impact

For corporate enterprises, putting intersectionality into practice is all in the design and strategy. It starts with an accounting and reconfiguration of every asset a company can bring to bear to create impact. That means adapting the themes and goals of company events; greening financial instruments like bonds; and reimagining philanthropic efforts.

Launching venture funds focused on impact is one clear opportunity. Corporations including Citi, JPMorgan, Amazon, and Salesforce have created funds that help advance the growth of companies driving impact across education and workforce development, sustainability, diversity, equity, and inclusion. In June 2020, the Global Impact Investing Network (GIIN) estimated that this sector had ballooned to $715 billion, up more than 40% from 2019.

Diversity in a traditional portfolio helps reduce risk, and it helps optimise reward in the impact context. Perhaps the most important plank of this venture platform is a commitment to investing in women and underrepresented founders, who historically lack access to capital.

Ultimately, these efforts will not create sustainability without meaningful transparency. An ESG reporting framework convergence will give all stakeholders visibility into the actual impact of a company. For too long, impact has lacked an accessible measurement for stakeholder value. Many voluntary frameworks exist, yet no single, accepted global ESG standard for corporate disclosure is yet in place. However, on January 26th, corporate members of the World Economic Forum and its International Business Council voiced their public support for stakeholder capitalism and called for ESG convergence, a promising step towards standardised reporting.

A growing corporate coalition is putting its best foot forward to redirect and redesign the machinery of the private sector by focusing on stakeholder capitalism. Capitalism as it is currently designed doesn’t work for everyone. We need a more equal, fair and sustainable way of doing business that values purpose alongside profit. If we remain committed to reform and innovation, impact has the opportunity to prove that the challenges we face can accelerate progress, not inhibit it. This is our promise — a promise we call on others to make alongside us.

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Increase investment in Africa or miss the UN’s SDG deadline

A Standard Chartered survey conducted between July and August 2020, amongst a panel of the world’s top 300 investment firms with total assets under management (AUM) of more than USD50 trillion*, found that:

  • Only 3% of their AUM is invested in Africa
  • Lack of investment in emerging markets puts the chances of meeting the 2030 SDG deadline at risk
  • Of those already investing in Africa, 93% say they will likely increase their investment in the future

Africa is not getting the investment needed to help the world meet the UN’s Sustainable Development Goals (SDGs) by 2030, new research from Standard Chartered has revealed.

The $50-trillion question investigates how some of the world’s largest asset managers – with a combined USD50 trillion in AUM – are investing at this critical time for the global economy and the environment.

Emerging markets are seeing a massive shortfall in investment

Our research shows that almost two thirds (64%) of the panel’s AUM is invested in the developed markets of Europe and North America, while just 3% is in Africa.

Asia, which includes several developed markets, takes 22%, while just 2%, and 5% of the assets are invested in the Middle East and South America, respectively.  

The risk posed by emerging markets was flagged as a major barrier to investment. More than two-thirds of investors believe emerging markets are high-risk, compared to 42% who believe the same for developed markets. More than half of the panel (53%) believe returns from investment in Africa are low or extremely low, with almost three in five investors (59%) saying that they are deterred from investing because they lack in-house specialist teams.

In contrast, those already investing in Africa are optimistic about the region, with 93% saying they are likely to increase investment in the future. 54% of Africa investors said their investments had performed as well as – or better than – their developed market investments over the past three years. The figure for emerging markets overall was 88%. However, Covid-19 may have made it even harder for emerging markets to get the investment they need. Some 70% of investors believe the pandemic has widened the capital gap further.

Which markets are getting the most investment? 
North America26%
Europe38%
Asia22%
Middle East2%
Africa3%
South America5%
Australia/Oceania4%

Not enough investment is linked to the SDGs

The research points to a growing focus on sustainability, with 81% of investment firms now taking a disciplined approach to environmental, social and governance investment. However, this is not translating into investment in the SDGs. Only 13% of the assets managed by our respondents is directed towards SDG-linked investments. Some 55 % claim the SDGs are not relevant to mainstream investment and 47% say investment in the SDGs is too difficult to measure. However, one-fifth of investors admit that they were not aware of the SDGs. Respondents point to regulatory changes, favourable tax treatment, evidence of higher returns, better data for measuring impact, and increased demand from retail investors as the top five factors that might spur on more SDG investment.

What are the tools and incentives to encourage SDG investment?
Regulation that encourages SDG-linked products74%
Favourable tax treatment of SDG-linked investments63%
More evidence that investing in SDGs will not lead to underperformance63%
Better data to measure the impact of SDG investments53%
Retail investor demand for SDG-themed investments53%

Sunil Kaushal, Regional CEO, Africa & Middle East, Standard Chartered said there is still investment gap in Africa to realise the SDGs and this creates an opportunity for us to make a difference where it matters the most.

“A significant surge in private-sector investment – alongside public investment and commitments – will be required to bridge the gap and hit the SDG targets over the next ten years. Right now Covid-19 has made the imperative to act even stronger in the region.

Sunil Kaushal, Regional CEO, Africa & Middle East, Standard Chartered

There is no single answer to The $50-trillion Question, but it is evident that investors need to expand their focus beyond developed markets. Africa, and emerging markets generally, offers investors a unique opportunity: strong returns combined with the chance to have a significant, positive impact in the long term.”

The $50 Trillion Question study follows the publication of Opportunity2030: The Standard Chartered SDG Investment Map which first revealed the multi-trillion-dollar opportunity for private-sector investors to help achieve the SDGs in emerging markets.

*The $50 Trillion Question Investor Panel is made up of asset managers from the world’s top 300 asset management companies. With combined assets under management (AUM) worth more than USD50 trillion (the equivalent to half of global GDP), how the asset managers in our survey choose to invest will have a huge impact on humanity’s ability to solve some of the world’s biggest problems. This study is based on in-depth interviews with the panel, conducted between July and August 2020.

The below shows the panel broken down by AUM, role and location, all of which ensure it is representative of the global top 300 asset managers.


You can read the full Standard Chartered $50 Trillion Question report here.

The $50-trillion investor panel
by AUMby generalised job roleby location
19% are top 10 firms (over USD1 trillion)
46% are top 11-50 Firms (USD1 trillion to USD350 billion)
23% are top 51-150 firms (USD350 billion to USD90 billion)
12% are top 151-300 firms (USD90 billion to USD20 billion)
42% fund managers
41% strategists
17% emerging market specialists
42% are based in North America
42% are based in Europe
8% are based in Japan
3% are based in China
5% are based elsewhere

Standard Chartered

Standard Chartered PLC is listed on the London and Hong Kong Stock Exchanges. Follow Standard Chartered on Twitter, LinkedIn and Facebook.

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LatAm: Six megatrends in payments for 2021

In this webinar presentation, the payments team from Americas Market Intelligence examined six huge shifts that they foresee occurring with payments in Latin America in 2021 and beyond.

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SA companies spent R10.7 billion on CSI in 2020

South African companies spent an estimated R10,7 billion on corporate social investment (CSI) in the 2020 financial year.

This represents a marginal 1,2% growth in real terms from R10,2 billion in 2019, according to CSI consultancy Trialogue. The research was published in the Trialogue Business in Society Handbook. It reflects the 23rd consecutive year of fact-finding into the state of local CSI.

Trialogue Director Cathy Duff said: “CSI expenditure in real terms has not shown a consistent trend since a period of growth between 1998 and 2013. Although we see a slight increase in 2020, we expect that as the economy contracts, so too will CSI expenditure, which generally lags GDP growth.”

CSI expenditure remained concentrated, said Duff. The top 100 companies (by CSI spend) accounted for 69%, or R7,4 billion, of total CSI expenditure. Of this R7,4 billion, almost two-thirds was spent by the 20 companies whose CSI expenditure was more than R100 million in 2020.

Companies that donated the most operated in basic resources (mining, water and forestry), retail – boosted by product donations ‒ and financial services. Together, these three sectors accounted for nearly two-thirds of CSI spend.

Non-cash giving (products, services, time) constituted 16% of total CSI allocation.

Response to Covid-19

Almost all companies focused on the health and safety of their staff (99%) and customers (83%) in their response to Covid-19. Fewer (40%) offered support to suppliers.

At least four out of five companies donated to Covid-19-specific responses, with most supporting interventions in food security (64%), healthcare (60%), and in the form of contributions to the Solidarity Fund (60%). Two-thirds took part in multi-stakeholder responses such as government dialogues and industry initiatives.

The reported impact of Covid-19 on CSI spend was mixed. Almost equal numbers of companies reported increased expenditure (26%), no change in expenditure (21%) or reduced expenditure (21%).

Several companies (13%) reported that expenditure remained the same but was redirected to respond to Covid-19. Only 4% of companies ceased or put all CSI funding on hold.

Causes and geographies supported

As in previous years, education was the most popular cause, supported by 95% of companies and receiving half of all CSI expenditure, said Duff. Social and community development remained the second most supported sector, followed by health, then food security and agriculture. Disaster relief received a relatively small percentage of CSI spend, but many more companies contributed to it this year.

“Corporates supported projects across an average 4,6 sectors, broadly consistent with previous years. This figure is significantly higher than United States companies, which are more focused and supported projects in an average 1,4 sectors in 2017.”

Over half of CSI spend (54%) was allocated to projects with a national footprint. Gauteng was the most supported province in 2020 (48% of companies directed funding to operations in the province, which received on average 19% of companies’ CSI expenditure.) This was followed by KwaZulu-Natal (supported by 35% of companies) and the Western Cape (supported by 28% of companies.)

Funding recipients

In line with previous years, non-profit organisations (NPOs) were the main recipients of CSI funding. Over 90% of companies directed an average 54% of their spend to NPOs.

The next most common recipients were government institutions such as universities, schools, clinics and hospitals. These were funded by 69% of corporates and received on average 25% of companies’ CSI spend.

One out of five companies funded social enterprises, which aim to maximise profits while maximising benefits to society and the environment.  This, however, amounted to only a small percentage (2%) of average company CSI spend.

Rationale and strategy

“The majority of companies (81%) rated ‘moral imperative’ as one of their top three reasons for supporting CSI, with 53% rating it as the top reason. This is consistent with previous years,” said Duff.

More than half of companies undertook CSI because of licence-to-operate obligations other than BBBEE, although only 11% ranked this as their top reason,

Reputational benefits, which ranked second in 2017, were rated lower this year. Only 35% of companies reported reputational benefits as one of their top three reasons for supporting CSI.

Impact of weak economy

Discussing trends in local CSI, Duff noted that net profit after tax (NPAT) of the 194 listed companies analysed showed a median decline of 12,7% in 2020, reflecting the weak state of the economy.

“CSI budgets are often determined as a percentage of NPAT and are based on the financial performance of the previous year. This results in a lag between current NPAT performance and budgeted CSI spend.

“Declining corporate profitability is expected to have a negative impact on future CSI budgets, although the extraordinary contributions to Covid-19 relief programmes in 2020/21 may delay the downturn in CSI spending.”

To read more: The Handbook can be downloaded free https://trialogue.co.za/publications/.

As in previous years, the Trialogue Business in Society Handbook is noted not only for its in-depth research but also for its expert contributions and striking design. This year, images from The Lockdown Collection appear on the front cover and throughout the edition. The Lockdown Collection is an art initiative founded this year to capture South Africa’s Covid-19 lockdown and to support vulnerable artists.

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Montauk Renewables lists on the Johannesburg Stock Exchange

US-based renewable energy company, Montauk Renewables, listed on the Johannesburg Stock Exchange’s (JSE) Main Board, making this the first company listing for 2021. This listing is a secondary listing for the company under the alternative fuels classification. Montauk Renewables is a new listing resulting from the unbundling of Montauk Holdings.

A leader in renewable energy development from biogas, Montauk Renewables has been specialising in the recovery and processing of methane gas sources for use as an alternative to fossil fuels for over 30 years. The organisation has extensive experience in the development, operation, and management of biogas fuelled renewable energy projects.


“As an organisation that is environmentally conscious, the JSE is pleased to welcome Montauk Renewables onto the Main Board. This listing is an opportunity for South African investors to invest in the green fuel
space, and help preserve our planet for future generations. We wish Montauk immense success in their growth journey as we all work together towards growing shared prosperity.”

Valdene Reddy, Director of Capital Markets at the JSE.

The JSE now has 337 companies listed with a market capitalisation of over R18.9 trillion.

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IPPs to power a new wave of economic opportunity

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Supplier development drive can get SME sector – and economy – back on its feet

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Common mistakes corporates make in their supply chain strategies

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