To guide investors – both asset owners and investment managers – who are implementing ESG integration techniques in their investment decisions and processes, this report, A Practical Guide To ESG Integration For Equity Investing, is the most comprehensive description to date of what ESG-integrated analysis is, and how it works in practice.
Integrating environmental, social and governance (ESG) factors into analysis of listed equity investments is the most widespread responsible investment practice in the market today. Several drivers, including capital flowing into funds that integrate ESG factors and the growing awareness of academic research supporting the benefits, are encouraging more and more investors to practice ESG integration. This paper is divided into four main sections:
- Integration techniques: There are a range of techniques available to integrate ESG factors across investment strategies. Case studies demonstrate how they can be put to use, and that investors can treat ESG factors in the same way as any other financial factors using existing quantitative methodologies.
- Sell-side research: Sell-side analysts can generate ideas and investment themes for investment managers to integrate, or they can directly integrate ESG factors into fair values and investment recommendations (e.g. buy/hold/sell) themselves. In this fully integrated approach, sell-side analysts integrate ESG factors into their forecasted company financials (e.g. revenues, costs, asset, liabilities, tax rates – via the income statement, balance sheet and cash flow statement) and/or models (commonly the discounted cash flow model).
- Assessing external managers: Asset owners (or their investment consultants) assess external managers’ integration practices through their existing selection, appointment and monitoring (SAM) process in order to identify, hire and appraise managers that will be able to comprehensively meet their mandate.
- Impact investing process: Fully integrating ESG factors into a new or existing investment process takes time and often requires trial and error. Many variables are involved and approaches differ between investment managers and even between teams. The first step, applicable to all investors, is to get senior management to buy in to the benefits of integrating ESG factors into investment processes.