ESG Core FrameworkESGCoreFramework

The core-satellite approach allows investors to pair complementary ESG strategies. A core manager (such as QMA) could contribute controlled ESG exposure with risk control and stable performance, while a specialist manager could provide a stronger focus on ESG with potentially more variable performance. The combination of core and specialist managers may be more likely to deliver comprehensive investment performance and a stronger ESG outcome.

Overcoming the Challenges of ESG

“We view the quantitative manager’s role as one of providing an objective, yet flexible data-driven perspective on ESG issues,” said Gavin Smith, Managing Director and Portfolio Manager at QMA. “We do so by carefully balancing our clients’ growing desire to invest responsibly with our goal to maximize their long-term, risk-adjusted returns.”

QMA has identified three primary challenges to achieving this goal, along with proprietary quantitative solutions:

1. Evaluating ESG attributes: In the realm of ESG investing, more is not better. Indeed, QMA’s proprietary research shows that focusing solely on ESG metrics that are material for each firm and industry is preferable to utilizing all available ESG metrics. QMA’s refined, data-driven approach to evaluating ESG also seeks to eliminate “window dressing,” in which companies may look attractive from an ESG perspective while hiding negative ESG traits. Our combination of effort, effect and controversy-based ESG metrics help us in this respect.
2. Expanding ESG insights: ESG information is voluntarily disclosed on a corporate level, so accurate data can be sparse (and questionable). In order to overcome limitations on data availability and quality, QMA utilizes a quantitative data completion methodology, which can significantly increase the breadth of ESG insights. We draw on statistical techniques and natural language processing (NLP) to overcome limited data. This allows us to delve into information sources beyond those directly disclosed by the company. Language from conference calls and other unstructured data can be used to quantify material ESG issues.

   We also encourage companies to be more transparent about their ESG practices through participation in industry associations, effective lobbying, and other efforts, which seek to improve ESG stewardship on a wider level.

3. Integrating ESG into portfolio construction: QMA’s quantitative process integrates ESG insights without changing alpha factor exposures by substituting stocks with more attractive ESG attributes for those that rank less attractively from an ESG perspective. Focusing on portfolio-level factor and ESG exposures rather than individual firm-level exposures aids substitutability and alpha capture.

Targeted ESG

Investors will always have varying goals for their ESG portfolios. Our quantitative process allows us to adjust the ways in which we integrate ESG into portfolios and target different levels of active ESG exposure to produce varying levels of ESG investment for each client. Investors can then select the alpha and/or ESG exposure solution that best meets their needs. This can range from a moderate level of ESG exposure with additional expected alpha to a higher level of ESG exposure that offers expected returns more in line with their selected benchmark.

As demand for ESG investing continues to grow, more institutional investors will be forced to contend with the tricky balance of ESG issues and alpha capture. QMA’s core-satellite approach allows investors to choose their own level of ESG investment, so they can “do good while doing well.”

Learn more about QMA