By Eric Dutram, Contributor, DWS
Some dismiss ESG investing as incapable of outperforming traditional benchmarks. But in one of the wildest market environments in the past decade, what have been the results for ESG?
After all, if there was ever a time for ESG to prove its mettle, it would be in a time frame that saw broad U.S. stocks, as represented by the S&P 500 Index, gain roughly 20% in Q2 but still not be in the black for 2020 to begin the third quarter. If ESG can outperform in this type of unprecedented uncertainty, maybe there is something to a strategy that considers environmental, social and governance characteristics (also read One important way to tell ESG strategies apart)?
ESG vs. Traditional
Fortunately for proponents of ESG, it was a clean sweep. Not only did the S&P 500 ESG Index outperform its “traditional” counterpart of the S&P 500 Index in the past month, but it did so in the trailing quarter and from a year-to-date look as well. This was not limited to 2020 either, as an ESG-based strategy also outperformed from a one year perspective:
|1 month return||3 month return||YTD return||1 year (annualized)|
|S&P 500 ESG Index||2.55%||20.99%||-1.62%||10.09%|
|S&P 500 Index||1.94%||20.37%||-3.37%||6.87%|
|ESG outperformance||61 basis points||62 basis points||175 basis points||322 basis points|
Source: Standard & Poor’s, data as of 6/30/20. Past performance is not indicative of future returns. You cannot invest directly in an index. Returns are benchmark net total returns.
We generally regard ESG as more of a long-term strategy, but results like those discussed above suggest that it has potential to add value during shorter time frames as well. It is also worth noting that this is not a story of the ESG index having significantly smaller weights in the energy sector. That would have been an easy source of outperformance given the shocks in the commodity world, but the S&P 500 ESG Index strives for a sector neutral approach.
In fact, as of the end of June, both the S&P 500 ESG Index and the traditional S&P 500 Index have within 10 basis points of the same level of exposure to energy. The rest of the sectors are relatively balanced as well, as no single sector in the S&P 500 ESG Index deviates from the S&P 500 Index benchmark levels by more than two percentage points. This suggests that the story of ESG’s relatively strong performance is not so much a sector story as it is one of avoiding some of the worst names, securities that may have been able to do fine when seas were calm, but may be in more trouble now given recent and potential coming storms (also see Why ESG investing isn’t just for environmentalists).
It has been a difficult stretch for investors given the ongoing pandemic, global concerns and constant surprises from the market. However, even in this uncertain environment, investors could have outperformed the S&P 500 Index over the past year by simply buying the same stocks in that famous benchmark, but applying ESG principles first. So the question for investors in light of this news should not be if ESG can lead to outperformance but rather, in such a difficult market, why make it any harder by avoiding ESG?