ESG Portfolios Outperform Broad Market Indices

Companies are increasingly trying to mitigate potential environmental, social and governance (ESG) risks as a way to protect their brand value and ensure stable demand for their products, Calvert Investments states in a new report, “Perspectives on ESG Integration in Equity Investing: An opportunity to enhance long-term, risk-adjusted investment performance.”

“Companies are also responding to a wide range of global sustainability challenges with new business solutions that could boost financial performance and provide long-term competitive advantages,” Calvert says. “For investors who recognize the importance of considering non-financial information when making investment decisions, there is an opportunity to generate excess returns and better manage risk in investment portfolios by using ESG factors.”

Calvert analyzed data on ESG investing in various ways between June 2000 and December 2014, starting with ESG screens, then moving to stand-alone ESG investing and finishing by looking at a combination of traditional and ESG investing. “We find empirical evidence across each of these approaches that incorporating ESG factors into investment decisions improves the investment selection process and enhances risk-adjusted returns,” Calvert says.

From December 31, 2008, through December 31, 2014, the Calvert Social Index (CSI) outperformed the Russell 1000 Index by 142 basis points on an annualized basis, Calvert says. “Importantly, ESG screens can add value through stock selection by helping investors avoid ‘bad actors’ as well as by identifying more sustainable companies,” Calvert says.

Next, when looking at portfolios that actively selected ESG stocks between March 2004 and December 2014, Calvert found that “portfolios consisting of companies showing the greatest improvement in their ESG portfolios outperform both comparable broad market indices and portfolios made up of companies with deteriorating ESG profiles.” The top-quartile ESG portfolios delivered annualized total returns of 9.76%, compared to the Russell 1000 Index’s 8.28% return and the bottom-quartile ESG portfolios’ 7.92% return.

Finally, Calvert analyzed the performance of hybrid portfolios consisting of traditional and ESG equities between March 2004 and December 2014, again separating portfolios with improving ESG scores in the top quartile from portfolios with deteriorating ESG scores in the bottom quarter—and found a difference in those quartiles’ returns of as much as 4.88%.

Calvert says that in 2014, $21.4 trillion of professionally managed assets around the globe applied ESG criteria to their investment analysis. In the U.S., $6.57 trillion on assets use ESG criteria.

Calvert’s findings mirror a recent global survey of 97 institutional investors by LGT Capital Partners and Mercer that found that more than three-quarters incorporate ESG criteria when investing in alternative asset classes, and more than half (57%) believe ESG investing has a positive impact on risk-adjusted returns.

Calvert's report can be downloaded here.