Mercer study supports positive link between responsible investment and financial performance

Thursday, 19 November 2009 15:04

Review of academic studies reveals impact of environmental, social and corporate governance on portfolio returns

Specific environmental, social and corporate governance (ESG) factors can have a positive impact on portfolio returns, according to a growing body of academic research. In its new report, Shedding Light on Responsible Investment: Approaches, Returns and Impacts, Mercer summarises and comments on sixteen academic studies— the majority of which (ten) show a positive relationship between ESG factors and companies’ financial performance, four of which show a neutral relationship and two which show a neutral to negative relationship (see Table 1).

“The idea that responsible investment does not have to come at a cost to performance is becoming well established in the institutional investment industry. In fact, the ‘Shedding Light’ report further builds the already strong case that considering ESG factors can add real and measurable value to an investment portfolio,” said Tim Gardener, global chief investment officer for Mercer’s investment consulting business.

The research reviewed in the report include influential, peer-reviewed studies which apply traditional finance theory to ESG factors and span a variety of research methods, regional samples and investment approaches (such as screening, integration, and shareholder engagement). The studies also encompass a variety of geographies, both in country of origin and in markets considered.

”Shedding Light” serves as a follow up to the 2007 Demystifying Responsible Investment Performance report, in which Mercer and the Asset Management Working Group of the United Nations Environment Program Finance Initiative (UNEP FI) studied the existing academic ESG performance research. Considering these two reports together, a total of thirty-six studies examining the link between ESG factors and financial performance have been reviewed. Of these, twenty show evidence of a positive relationship between ESG factors and financial performance; only three show evidence of a fully negative relationship.

Table 1 – Summary of academic research on link between ESG factors and financial performance

2009 Mercer Study	2007 Mercer/UNEP	FI Study	Total
Studies showing positive impact	10	10	20
Studies showing neutral to positive impact	0	2	2
Studies showing neutral impact	4	4	8
Studies showing neutral to negative impact	2	1	3
Studies showing negative impact	0	3	3

The academic studies’ results vary in part due to differing research methods and short sample periods. In the past, studies of this kind tended to focus on the link between ESG factors and listed equities. This exclusive focus on equities is beginning to change, and Mercer’s new report includes several studies examining the financial performance of other types of investments, such as microfinance funds and hedge funds.

Another key to the interpretation of the Mercer report’s results is an understanding that responsible investment is a broad practice and that there are a number of tools available for integrating ESG factors into the investment process including voting, engagement, collaboration, negative and positive screening (sometimes referred to as best in class) and ESG integration into valuation metrics.

“Growing interest in responsible investment due to regulatory changes, further reassurance about the link between ESG factors and fiduciary duty and increased public awareness, has led to greater mainstream adoption of these tools worldwide,” noted Jane Ambachtsheer, Mercer’s global head of responsible investment. “As these trends strengthen, we can expect to see continued improvement in the area of ESG integration by institutional investors and increased academic and industry focus on its impact on performance.”