We believe that a careful portfolio combination of quality, from ESG Winners, and rerating opportunities, linked to ESG Improvers, will allow investors to achieve a more attractive risk-adjusted return.

We are seeing a growing demand amongst pension and savings investors for products focused on investing responsibly. This demand from investors is coupled with a desire to understand the process behind the funds to ensure they are investing with a manager who has a proven and credible track record in this space in terms of both financial performance and ESG impact.

We are also seeing that this approach in doing right by the planet and people is becoming more directly linked to positive returns and market performance.

Research backs that up.

ESG funds captured $51.1 billion of net new money from investors in 2020 – a record and more than double the prior year according to Morningstar.

On top of all that, new regulations applying from March 10 is also likely to heighten awareness and knowledge further in this area. EU Directive, The Sustainable Finance Disclosure Regulation (SFDR), requires Financial Market Participants and Financial Advisers to provide investors with certain ESG-related information about financial products in order to enable investors to make informed investment decisions based on ESG factors. This first of its kind regulation should also make it easier for investors to compare ESG products across the market.

The fact deposit rates are at zero, or in some cases negative, means that we are also seeing very early signs of a move away from cash. This is another factor that might play a role in increased investing in ESG, and in investing in general – particularly in light of the growing amounts being held on deposit in Ireland.

Savings levels in Ireland have increased to historically high levels since the onset of the pandemic. The savings ratio (the percentage of gross disposable income saved by households) rose to 35.4 per cent in the second quarter of 2020, and 21.4 per cent in the third quarter, according to the quarterly report from the Central Bank of Ireland published in January.

Between March and November 2020, Irish households have increased their deposits by €11.6bn.

Perhaps, even more compelling, are recent findings from Amundi’s Quantitative Research team that shows that over the past two years ESG is becoming financially material – in other words a source of outperformance, in equity and in bond markets.

Significantly, the ongoing Covid-19 crisis and the initial resulting market turmoil have confirmed the increasing relevance of integrating ESG criteria and sustainability into the investment decision.

The global pandemic may even serve to expedite this trend for ESG investing, as many have an increased value on life, health and the type of the planet we want to leave behind.

We believe integrating ESG criteria and sustainability into the investment decision will add value both in terms of being able to deliver better risk-adjusted return, but also in terms of helping to put focus on – and ultimately improve – important ESG parameters for companies and society.

It will be key for active investors who look to generate excess returns to detect those opportunities where the ESG premium is not yet priced in fully.

So, how can one identify those companies that have the potential to generate the most positive ESG impact on society?

One way to do that, in our view, is moving from a static best-in-class approach to a dynamic and forward-looking one, seeking tomorrow’s ESG leaders.

Amundi recently launched ‘ESG Improvers’ to identify companies that have the capability to become ESG Winners – a totally new way of thinking.

This is an actively managed strategy, open to institutional and retail investors that aims to capture ESG-related growth potential at an early stage – and is managed from Dublin, the main equities investment centre for the Amundi Group.

So what exactly do we consider ESG Winners?

ESG winners are quality companies with attractive valuations and strong ESG ratings, while ESG improvers are corporates portraying a solid fundamental investment case and an improving ESG trend, but are not yet ESG leaders.

The standard way of ESG investing, which focuses on best-in-class companies with higher scores, doesn’t make as much sense because it is too valued.

Instead, you need to look at ‘improvers’ and future leaders – those companies that evolve over time, in particular, great companies that fall from grace relative to peers but are now making progress on restoring their ESG credentials, including tangible, credible commitments to improve on material ESG risks.”

It’s important to look at the journey of the company, rather than consider its available data statically.

Think about it – everyone already knows who the existing ESG leaders are and so there is less opportunity to generate value. Also, given they have already integrated ESG into their DNA, there is less space to create additional positive societal impact compared with a company which has considerable room for improvement.

We believe that a careful portfolio combination of quality, from ESG Winners, and rerating opportunities, linked to ESG Improvers, will allow investors to achieve a more attractive risk-adjusted return.

In addition, we seek to avoid ESG laggards within sectors and by that I mean companies that are not being proactive to address ESG risks within their sectors.

It is important to stress that our analysis not only considers environmental impact but also fundamentals such as, for example, tax practices, board structure and labour-related issues.

So, how does this approach work?

This approach marries deep-value fundamental analysis with in-depth ESG research. Amundi looks for inflection points on concrete, tangible ESG actions (rather than commitments/forward looking declarations), which a computer cannot do.

This is all driven by the realisation that valuation dispersions are at their most extreme levels ever, with cheap ESG stocks being extremely cheap, while tech stocks (often with higher ESG ratings) conjuring up Dot Com Bubble valuations.

Two examples of ‘improvers’ would be Vonovia, the German residential real estate company, that has a strong focus on the affordable segment and when regulations came in that were unfavourable to property owners, they were better positioned.

Another is Orsted, the Danish global offshore wind leader, which is now considered best-in-class, but in its ‘improver’ phase, saw its multiple go from 10 to 30.

So, in summary, if you partner with the right asset manager you can create alpha and, in doing so, make the world a better place. Every ESG investor has a role to play.

End

Graham Fox, Head of Retail Business, Amundi Ireland Limited