Live at MICUS: Cliff Asness on AQR’s Approach to ESG Investing

ESG has risen to a spot on the center stage, heavily influencing investors’ allocation decisions.

Funds labeled as ESG have largely taken different approaches: those that seek to change ESG-offenders through stewardship and those that screen out and limit – or divest altogether from – ESG-offenders. The majority of existing funds and product development fall into the latter category.

Cliff Asness, founder, managing principal, and CIO at AQR Capital Management said on May 17 at the Morningstar Investment Conference that there’s a lot of confusion as to why ESG can work, and choosing to divest – or even short – the ESG-offenders can create real change.

“A lot of people who divest can’t, in my experience, really articulate how that actually affects what they care about. It feels good. It feels like the right thing, and they’re not wrong, their instincts may be getting it right, but they can’t really tell you [how this helps],” Asness said.

Though not simple and requiring a group effort, this method can affect change beyond an individual company.

If enough people in the market – not just one, it has to be a decent number – choose to divest or short, which, in Asness’ words, is putting the whole thing on steroids, the stock of an ESG-offender stock, the price of that security will fall, according to Asness. 

However, by divesting, the falling price means that the people who are still willing to buy the stock have an even greater expected return.

“It doesn’t feel good that the people get a higher return. But how do you affect the world?” Asness said. “If by divesting you made other people earn more, raised the expected return – you’ve raised the cost of capital, you raised the discount rate,” Asness said. 

This, in turn, means fewer projects will pass the hurdle because they have to be more profitable, and the world will get less of what this company is doing – not by forcing them, just by making it unappealing for them to do it, Asness said. 

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