If you invest with environmental, social, and governance (ESG) goals in mind, you may do good, but you won’t do well. That’s the thesis behind the Department of Labor (DOL)’s proposed curb on corporate and other private defined benefit (DB) pension plans investing in stocks with high ESG scores.
But a Bank of America (BofA) research report begs to differ. ESG portfolios have logged superior performance over others, the banks’ analysts concluded, especially during the coronavirus economic slump.
“ESG is a bear market necessity, not a bull market luxury,” the report concluded. Lately, it said, exchanged-traded funds (ETFs) overall have been hit by outflows, but ESG-oriented funds have had inflows.
Credit those better returns. ESG has outperformed by 5 to 10 percentage points in in the US and Europe since the stock market peak in mid-February, versus stocks with lower ESG scores, BofA found. The “S” is the biggest reason for that here.
“Social factors (employee satisfaction, product safety, good workforce policies) appear to be driving” investor preferences now, the bank reasoned.
The conventional view of ESG investing, the report explained, is that stocks that followed its principals were “nice to have” and not a “need to have feature of investors’ noblesse oblige.” But that belief crumbles under scrutiny and particularly during a downturn, the bank argued.
One explanation for ESG’s better returns could be that energy stocks have done poorly this year, thus dragging down non-ESG portfolios. While that may be an influence, the report conceded, other forces were at work.
Companies with lower-ranked ESG scores in the US, Europe, and Asia have been hit with larger downward earnings revisions for this year and next. Why? A “track record of good employer/employee relations; safe, reliable branded products; and good workforce policies (including aspects like leave and child care)” have eased investors’ concerns—“more than good governance, which was most critical in the ’08-’09 financial crisis,” the report read.
Amid furloughs and layoffs, employee satisfaction makes for smoother running operations, BofA contended. Stocks with high Glassdoor.com ratings outpaced others by five points in the recent selloff, it added.
On the debt side, green bonds during the March credit crunch fell less than euro-denominated A-rated corporates. The same held true with emerging market sovereign debt. What’s more, the banks’ analysts wrote, “improving ESG often means improving credit stories—a critical factor in bear markets.”