Many ESG factors compete for an investor’s attention. Investors need to focus on material ESG factors—those factors that can have a fundamental impact on a company’s financial well-being—which can differ depending on the sector or industry being analyzed.
For example, greenhouse gas emissions (GHGs) are classified as a material factor for majority of industries in the transportation sector, but not for industries within healthcare, where access and affordability are more of a concern.
Materiality can also depend on whether you’re looking at E, S or G. Governance factors, such as board structure and diversity, are generally considered foundational and broadly applicable to all sectors. However, when looking at environmental and social factors, investors can benefit from focusing on a narrower set of factors with the highest (most material) impact for that industry.
ESG can offer a path to potentially generate consistent returns in investment portfolios. Indeed, seminal research by Harvard Business School found that high performance on material ESG issues tends to help enhance shareholder value, whereas non-material factors did not prove predictive of future performance.2 Here, we'll explore how and why investing with an ESG lens has historically delivered consistent returns—and how it may help you meet your own personal financial goals.
Investors are increasingly factoring in ESG metrics into their investment decisions. 9 in 10 asset managers believe that integrating ESG analysis into their investment strategy will improve long-term returns, and a majority of institutional investors have reported that their ESG products have outperformed traditional counterparts.3
Beyond the positive sentiment, what does the data tell us? We see mounting evidence to suggest that integrating ESG analysis—whereby investors may identify positive signals as well as risks to avoid—can help strengthen investment performance. ESG equity indices have performed in line with, or in some cases outperformed, traditional indices. Companies with higher ESG ratings tend to be more competitive and have high quality management teams, driving strong returns.4 Similarly, bonds that have higher ESG scores tend to have stronger cash flow metrics and less-frequent severe incidents.5
What can explain the better performance? We point to two variables:
capital allocation and risk management.
Difference in the frequency of major drawdowns (ranging from 40% to 100%) of top and bottom ESG-rated companies within the MSCI World Index
Final thoughts
Though ESG investing isn’t a new concept, some are still in the early days of adoption. The quantity and quality of ESG data are improving, and investors are becoming more sophisticated in interpreting what the data means from a business perspective. We think investors can be best served when they focus on material ESG factors.
At J.P. Morgan Private Bank, we can help you integrate Sustainable Investing into your portfolio. We have a dedicated Sustainable Investing team that collaborates with comprehensive due diligence and portfolio management teams to develop innovative, customizable approaches. We are a passionate educator, sharing relevant sustainable investing topics and trends, helping you to be as informed as possible as we work together to help meet your goals. Reach out to your J.P. Morgan team to learn more.
1Whelan et. Al, “ESG and Financial Performance: Uncovering the Relationship by Aggregating Evidence from 1,000 Plus Studies Published between 2015 – 2020”, February 2021.
2Khan, Mozaffar, George Serafeim, and Aaron Yoon. “Corporate Sustainability: First Evidence on Materiality.” The Accounting Review 2016 91:6, 1697-1724.
3PwC, “Asset and wealth management revolution: Exponential expectations for ESG” https://www.pwc.com/gx/en/financial-services/assets/pdf/pwc-awm-revolution-2022.pdf, 2022.
4Whelan et. Al, “ESG and Financial Performance: Uncovering the Relationship by Aggregating Evidence from 1,000 Plus Studies Published between 2015 – 2020”, February 2021.
5Rohit Mendiratta, Hitendra D. Varsani, and Guido Giese, “How ESG Affected Corporate Credit Risk and Performance”, The Journal of Impact & ESG Investing Special Issue on Climate: Part 2, Volume 2, Issue 2, Winter 2021
6Guido Giese, Zoltan Nagy, Linda-Eling Lee, “Deconstructing ESG Ratings Performance. Risk and Return for E, S and G by Time Horizon, Sector and Weighting,” The Journal of Portfolio Management, Volume 47, Number 3, February 2021.
7Ibid.
8MSCI ESG Research, data as of 10/03/2023.
9ESG - Environmental, Social & Governance Investing: Introducing the 'Human Capital Factor'. J.P. Morgan Securities plc. 18 March 2021.
10MSCI ESG Research, data as of 10/03/2023.
11The Wharton School of the University of Pennsylvania, CPP Investments Insights Institute, FCLTGlobal, “The People Factor: How Investing in Employees Pays Off,” March 2023.
12Bloomberg, “Making Chips Requires Lots of Water and, Gulp, Taiwan has a Drought,” February 2021.
13Bloomberg. Data as of 10/03/2023. Taiwan Semiconductor 17.1% average YoY sales growth (2018-2023) versus select peers (GlobalWafers, ASE Technology, Advantest, United Microelectronics, Tokyo Electron, DISCO) ranging from 4.78% to 11.05% over the same time period.