New Study Outlines Development of ESG in Smart Beta Strategies

A new study from Aberdeen Standard Investments (ASI); Sustainalytics, a leading global provider of environmental, social and governance (ESG) research and ratings; and the University of Oxford Smith School of Enterprise and the Environment has shown the growing prominence of smart beta and ESG amongst investors but outlined that the integration of ESG factors within those strategies is still relatively under developed.

The survey of 85 ASI and Sustainalytics clients found that a majority (54%) of organisations use smart beta strategies and that over three quarters (76%) of asset owners consider ESG integration capabilities when awarding mandates. However, only 24% of surveyed investors said that they are currently using a smart beta ESG strategy.

Investors are utilising three main techniques to combine smart beta and ESG, according to the study. The first is by extending negative screens, such as those that exclude companies involved in tobacco or controversial weapons, to smart beta strategies. Negative screens account for roughly two-thirds (62%) of the smart beta ESG examples uncovered in the study.

Second, investors are combining financially material ESG metrics, including environmental, carbon and corporate governance indicators, with traditional factor strategies. This approach accounts for just under one-third (31%) of surveyed smart beta ESG strategies.

Finally, a small number (8%) of investors said that they blend ESG information and smart beta strategies through the use of climate tilts.

Aberdeen Standard Investments Co-Head of Quantitative Equities Boyan Filev comments: “This study is a litmus test for how the relatively nascent worlds of smart beta and ESG are coming together. It clearly shows that the intersection of where these two trends meet is still under-researched. As both smart beta and ESG continue to grow in popularity it will be increasingly important for asset managers to be able to embed ESG within their smart beta strategies.”

Doug Morrow, Director of Thematic Research at Sustainalytics and one of the authors of the report, said: “While it may be early days for smart beta ESG, our conversations with investors suggest there is substantial quantitative research taking place behind the scenes that is likely to catalyze a deeper integration of ESG considerations into smart beta strategies going forward.”  

Beyond assessing how investors are employing smart beta techniques, the study also reflects on investors’ motivations for using smart beta. Nearly two-thirds (62%) of smart beta investors said that smart beta offers attractive risk/return benefits (compared to active management and conventional passive). Just over half (52%) cited smart beta’s low-cost structure.

The 85 participating investors have collective assets under management of GBP5.8 trillion and are drawn from 21 countries, with the largest proportion being private and public pension funds, followed by asset managers. Interviews were carried out and surveys completed between December 2017 and March 2018.

The full report can be accessed here (pdf)

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