As Global Head of Research for MSCI ESG Research, Linda-Eling Lee oversees all ESG-related content and research methodology and chairs MSCI ESG Research’s Ratings Review Committee. She leads one of the largest teams of research analysts dedicated to identifying risks and opportunities arising from ESG (environmental, social and governance) issues in the world. The team, located in 16 offices globally, provides ESG ratings of 6,500+ issuers; industry and thematic research; and analysis used by institutional investors for positive and negative screening. Linda joined MSCI in 2010 following the acquisition of RiskMetrics, where she led ESG ratings research and was head of consumer sector analysis.
Christopher P. Skroupa: What role do independent environmental, social and governance analysis and ratings organizations like MSCI ESG Research play in the global marketplace, and do you feel their function will increase in importance in coming years?
Linda-Eling Lee: More information is often a good thing, but for institutional investors in today’s market, the kind of information and how that information is used is often what’s most important. Many investors are coping with a lot of noise when it comes to environmental, social and governance (ESG) data, without the tools or framework to determine which factors may be financially relevant. And while the corporate disclosure trend continues to tick up, there remains incomplete and incomparable reporting across industries and regions. As a result, we see a great deal of demand among institutional investors for using ESG ratings and standardized metrics in their investment analysis.
At MSCI ESG Research, we rate over 6,500 publicly traded issuers on a scale from AAA to CCC based on how well positioned they are for ESG risks and opportunities that may affect their future value and which may not be captured by traditional financial analysis. MSCI ESG Research’s metrics and ratings are also used in over 700 MSCI ESG Indexes, which are benchmarks designed to represent the performance of different investor motivations, ranging from integrating ESG risks, to aligning investments with social values or achieving positive social impact.
We hope that access to ESG data for the average investor will continue to increase. Efforts by organizations such as the GRI, CDP and Sustainable Accounting Standards Board (SASB) as well as the Sustainable Stock Exchange Initiative are all working to improve corporate disclosure on ESG issues. As data availability improves, we foresee greater opportunities to apply more sophisticated analytical and modeling techniques that will further refine the ratings and research that we provide. Better data will also help accelerate the innovations we already see in developing investment tools that enable a much wider range of investors to access ESG-related strategies.
Skroupa: The market for environmental, social and governance related investments grew to $8.7 trillion in U.S. assets under management last year, up 33% since 2014, according to the Forum for Sustainable and Responsible Investment. How has increased investor attention on ESG factors affected corporates?
Lee: What this $8.7 trillion number represents is the spectrum of ESG investing strategies available to investors today, from values-based screening to integrating ESG factors to impact investing. In the earlier years of ESG investing, the majority of investors were practicing what is typically called socially responsible investing, focused on screening out companies that do not align with values or beliefs. Then and now, conversations between socially responsible institutional investors and their portfolio companies may be more straightforward, focused on business involvement in a federally sanctioned country, for example, or the production of controversial weapons.
In our current market, however, there are many different approaches to ESG integration, from active to passive management, quantitative strategies to fundamental equity analysis. What does the conversation look like between an investor and a company now that the approach to ESG integration is much more diverse and nuanced? What we often see is that after a company speaks with an institutional investor, it comes to MSCI ESG Research with a lot of questions about the range of ESG analysis investors are factoring into their investment process. The diversity of approaches and motivations can be a little bewildering for corporates. We’ve observed that the corporate community has increasingly recognized that ESG is important to a large swath of their investors. They often realize that they need to learn more about how investors view ESG factors and embed them in their investment process, and that investors’ focus reach far beyond what philanthropic projects the company undertakes.
Skroupa: We’ve seen a growing response from issuers when it comes to investor demand for ESG reporting, and MSCI has seen an increase in feedback rates from corporate issuers. How do you feel this translates to emerging ESG reporting trends?
Lee: MSCI has a dedicated Corporate Communications team that oversees outreach efforts to companies, and is committed to providing data and analysis to our clients that is as accurate as possible. Our core principle is that this should be a level playing field. That means all companies, no matter how big or small their CSR departments, should have equal access to data and analysis on their own company that we provide to investors. Level playing field also means that we reject the use of surveys and rely on publicly disclosed information, which we think investors should insist on for some minimal level of confidence on the veracity of ESG data. In 2016, 28% of the constituents of the MSCI ACWI Index, the global equity index consisting of over 2,400 developed and emerging markets countries, contacted MSCI ESG Research concerning their MSCI ESG Ratings report, up from 24% in 2015. Approximately 20% provided substantive feedback, up from 10% in 2015.
What this upward trend suggests is that we may be seeing the beginnings of a positive feedback loop. Corporate issuers might be starting to recognize that their shareholders are paying attention to ESG research and analysis on their company when making investment and engagement decisions. This would make them more motivated to understand the analysis their shareholders are using and what information and methodology underlie the analysis. We believe this is translating into greater commitment to providing timely and accurate information which will improve the robustness of the analysis.
Skroupa: In your 2016 review of corporate issuer interaction with MSCI ESG Research, you observed a significant increase in corporate inquiries and feedback from companies in the MSCI World Index, but little to no movement from emerging markets companies. Could you talk a little bit about why that may be?
Lee: In 2016, the corporate inquiry and response rate related to the MSCI ESG Ratings product for constituents of the MSCI World Index reached 34%, an increase of 6 percentage points over 2015 results. The rate of MSCI Emerging Market Index constituents contacting MSCI ESG Research about their ESG Ratings report remained stable, at 16%, over the same period. However, MSCI ESG Research has experienced a 10 percentage point increase in interest from MSCI Emerging Market Index companies across all MSCI ESG Research products since 2014.
Among Asian companies specifically, the communication rates across all MSCI ESG Research products close to tripled between 2014 and 2016. While this acceleration is largely driven by Japan, the adoption of stewardship codes and the attention towards ESG investment in this region may support this growing trend. As we noted in our 2017 ESG Trends to Watch Report, six of the 14 countries globally that developed stewardship codes since 2014 are in Asia. The codes set out principles that aim to improve engagement between investors and companies to help improve long-term, risk-adjusted returns.
In their October 2016 piece “The Value of ESG Data: Early Evidence for Emerging Markets Equities,” Cambridge Associates found that ESG made a stronger contribution to the performance of companies in emerging markets than those in developed markets. Investors in emerging market companies have traditionally had less information about the companies they invest in compared with their peers in developed markets. In a market like this, relevant ESG factors can help differentiate the leaders from the laggards. This philosophy can be seen at play in the historical performance differences between the MSCI Emerging Markets ESG Index and the MSCI World ESG index, which is composed of developed markets constituents. For the nine years ended Dec. 31, 2016, the MSCI Emerging Markets ESG Index experienced annualized returns that were 4.23% percentage points above its parent index, the MSCI Emerging Markets Index. Over the same period, the MSCI World ESG Index achieved annualized returns of 0.01% percentage point above its parent index.