ESG investing in the United States hits an inflection point Over the past ten years, interest amongst investors, business leaders and regulators on the topics of Environment, Social and Governance investing (ESG) investing has meaningfully increased, and we believe ESG investing will continue to accelerate and evolve. Case in point we are transitioning, post an 18-year career covering fossil fuels to ESG. With change comes complexity and challenges of implementing ESG investing and we believe ESG integration will be the approach (one in a list of several) where we can add the most value. In our official US ESG launch note, we cover ESG Markets and Integration (how to identify “ESG” movers), as well as the Energy/Industrial Transition and an update on US Policy.
ESG Markets While the US has not initially paced the EU it is quickly catching up. There are many possible reasons why interest in ESG in the US is rising. Close to "home", i.e. in the context of markets, snippets of evidence in support of a connection between ESG and markets are apparent and may be helping to drive interest. Here we highlight the work from the UBS Quant team which suggests 1) Investors can drastically reduce the carbon intensity of their portfolios without underperforming and could at times achieve outperformance and 2) a strategy of systematically buying "greening influenced" stocks would have outperformed.
The Quest to Identify Relative Improvement/Deterioration ESG drivers (of markets or indeed investment decisions) often present a challenge in being both complex and ambiguous. We address this challenge through our Four ESG Risk Groups outlined in the UBS Risk Radar. We also use the Four Risk Groupings to identify possible relative movement both within and between the groups as a potential strategy towards identifying relative ESG improvement/deterioration opportunities.
Linking UBS Risk Radars & Four Groups into Models & Portfolio Construction We believe discounted cash flows (DCFs) will be key in integrating ESG factors (for a specific security) into company models. Modelers can use the Risk Radar to assist in where to reflect forecasts within the model, including determining where to reflect idiosyncratic risks in models i.e. capex and revenue expectations. Additionally using the Four Groups coupled with ESG Valuation Integration and identifying companies with relative ESG improvement/deterioration portfolio managers can construct hypothetical long/short scenario portfolios around megatrends.
ESG Has Potential to Influence a Material Capex Trend In this report, we focus opportunistically on the impact that the energy transition can have on the industrials and energy sectors, leveraging knowledge gained over many years of experience in these sectors. In our view the impact of the “greening” of energy and mobility systems on these sectors is clear to see. We expect material CAPEX spend which may not be fully reflected in investor models. We note that continuing regulatory developments such as the Fit for 55 proposal (the EU’s plan for a green transition) or regulatory developments at the State level are potential catalysts for further momentum in this field to continue.
