Responsible Investing (ESG) Video

How ESG Integration Can Improve Risk-Adjusted Returns

07 January 2022

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How ESG Integration Can Improve Risk-Adjusted Returns

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Michelle Dunstan: In recent years, institutional and retail investors have become more aware of how environmental, social and governance issues impact their investments. The COVID-19 pandemic has been a catalyst for action, and the questions about ESG are growing more urgent:

“How ready were companies and other organizations for the unexpected?”

“Were they able to adapt in order to ensure sustainable growth?”

“How do they look after the welfare of employees and customers?”

These are ESG issues, but they’re also financial issues.

Think about climate change. Governments are committed to a lower carbon future, which will have far-reaching impacts. For an investment manager acting in its clients’ best interests, these ESG issues ARE financial issues: It’s critical to dig into a portfolio’s carbon footprint, and to understand how future carbon taxes or lower carbon alternatives will impact each issuer.

At AB, we don’t believe in a tradeoff between ESG considerations and return considerations. ESG considerations ARE financial considerations.

AB’s Investment Philosophy

AB’s Investment Philosophy

Chris Hogbin: Our philosophy is simple: integrating ESG into our investment processes improves our clients’ risk-adjusted returns. Years of empirical evidence and experience tells us that this is true. Behind every high-profile corporate scandal, whether it’s accounting fraud, environmental accidents or falsified emissions data, is a catastrophic failure in understanding and managing E, S or G risks.

And, in fact, it doesn’t take a scandal for ESG to have a material financial impact on an issuer.

Scott Di Maggio: As fiduciaries, we’re compelled to integrate the risks and opportunities of ESG considerations into every active investment decision.

Environmental, Social and Governance (ESG) Integration Allows Us to Create More Value for Our Clients

ESG Research, Engagement and Integration Augment the Traditional Investment Manager Tool Set

As of June 30, 2021
Source: AllianceBernstein (AB)

It takes in-depth, bottom-up industry research to understand these issues on a forward-looking basis. Because ESG and investment returns are so interconnected, it’s important that our investment teams lead our responsible investing efforts. They partner with our Responsibility team, our in-house ESG experts to integrate ESG throughout the investment process.

Michelle Dunstan: Why does ESG integration work? Let’s use an industrial carbon emitter as an example. When we’re considering what ESG issues would be material for this issuer, carbon emissions would be pretty high up on the list.

So we need to start with basic questions: Is carbon currently taxed? If it isn’t, could it be? Could new environmental regulations force factory or supply-chain upgrades? To do our job right, and to put an accurate price on an asset, we need to quantify, estimate and run scenario analysis on these risks.

ESG Integration in Action

Example: Industrial Carbon Emitter

ESG Integration in Action

As of June 30, 2021
Source: AllianceBernstein (AB)

Chris Hogbin: Our analysts also need to address second- and third-order impacts. For example, could substitute products emerge with lower carbon emissions that cost the company market share? If that happens, will the company lose talented employees to cleaner competitors?

Looking at all of these questions, it’s very easy to see that it’s impossible to separate ESG considerations and financial considerations in investment decisions. That’s why we integrate ESG throughout the investment process—and we firmly believe that it leads to better outcomes.

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