Table Of Content

Responsible Investing Responsible Investing serves as a holistic resource on Environmental, Social, and Governance (ESG) investing for undergraduate and graduate programs. It provides a thorough background and history of ESG investing, as well as cutting-edge industry developments, introducing the reader to the rapidly evolving field of responsible investing. Building on the first edition, this second edition provides updates where appropriate, as well as new emphasis on the development of standards in terminology and metrics. Opening with the background of ESG investing, the book discusses the development of ESG risks and provides an overview of ESG rating systems. It outlines the current position of ESG investing in portfolio management through granular analysis, offers insight into common investor concerns about ESG investments, presents qualitative theories, and reviews literature modeling ESG investment performance. Finally, the authors provide readers with a foundation on the development of financial models measuring risk and return, which can be used to evaluate the performance of ESG investments. This edition features updated statistics and a new chapter on regulation, reporting, and taxonomy in ESG investing, as well as new international case studies. Following a summary approach, Responsible Investing is a valuable textbook, providing a context in which upper-level students of ESG investment and sustainable finance can specialize. Matthew W. Sherwood, Ph.D., is Chief Executive Officer at WeVidIt Media, Inc. He is also an appointed Fellow in Business and Finance, an adjunct faculty member at The King’s College, and a guest lecturer at Columbia University, where he lectures on ESG Investing. Sherwood is also Investment Committee Member for both the Lavelle Foundation and the Guide Dog Foundation & America’s Vet Dogs. Julia Pollard is Product Manager covering Emerging Market Debt strategies at AllianceBernstein (AB). Pollard recently published “Establishing ESG as Risk Premia,” which was published in 2018 in the Journal of Investment Management and “The Risk Adjusted Return Potential of Integrating ESG Strategies into Emerging Market Equities,” which was published in 2017 in the Journal of Sustainable Finance and Investments. Responsible Investing Second Edition Matthew W. Sherwood and Julia Pollard Designed cover image: NicolasMcComber/Getty Images Second edition published 2023 by Routledge 4 Park Square, Milton Park, Abingdon, Oxon, OX14 4RN and by Routledge 605 Third Avenue, New York, NY 10158 Routledge is an imprint of the Taylor & Francis Group, an informa business © 2023 Matthew W. Sherwood and Julia Pollard The right of Matthew W. Sherwood and Julia Pollard to be identified as authors of this work has been asserted in accordance with sections 77 and 78 of the Copyright, Designs and Patents Act 1988. All rights reserved. No part of this book may be reprinted or reproduced or utilised in any form or by any electronic, mechanical, or other means, now known or hereafter invented, including photocopying and recording, or in any information storage or retrieval system, without permission in writing from the publishers. Trademark notice: Product or corporate names may be trademarks or registered trademarks, and are used only for identification and explanation without intent to infringe. First edition published by Routledge 2019 British Library Cataloguing-in-Publication Data A catalogue record for this book is available from the British Library Library of Congress Cataloging-in-Publication Data Names: Sherwood, Matthew W., 1983- author. | Pollard, Julia, 1995- author. Title: Responsible investing / Matthew W. Sherwood, Ph.D. and Julia Pollard. Description: Second edition. | Milton Park, Abingdon, Oxon ; New York, NY : Routledge, 2023. | Includes bibliographical references and index. Subjects: LCSH: Investments—Social aspects. | Portfolio management. Classification: LCC HG4515.13 .S34 2023 | DDC 332.6—dc23/eng/20221114 LC record available at https://lccn.loc.gov/2022054345 ISBN: 978-1-032-10103-3 (hbk) ISBN: 978-1-032-10097-5 (pbk) ISBN: 978-1-003-21366-6 (ebk) DOI: 10.4324/9781003213666 Typeset in Joanna by Apex CoVantage, LLC Contents List of figures ix List of tables xi About the authors xiii Contributors xv Preface xvii Acknowledgments xix Chapter rubrics xxi 1 Introduction 1 1.1 Assumptions for this textbook 1 1.2 Terminology 2 1.3 Useful features for students 3 Discussion questions 3 2 A historical survey of ESG investing 4 2.1 Progression of investing theories: neoclassical economics encounters human nature 4 2.2 Socially responsible investing’s historical beginnings: religious and corporate development (1800s–1950s) 5 2.3 Development era: key milestones in the development of SRI investing (1950s–1990s) 8 Case study 2A Pilgrims Fund Board 9 2.4 The modern era: 1990s–today 12 Learning perspective 1 Handprinting: driving positive impacts 17 Discussion questions 26 3 Common methods for incorporating ESG investments into portfolio management 30 3.1 Exclusion-based ESG investing 30 3.2 Integration-based ESG investing 32 Case study 3A ESG integration at J.P. Morgan Asset Management 34 3.3 Impact-based ESG investing 41 3.4 Engagement-based ESG investing 42 Case study 3B Defining engagement – Federated Hermes 43 Learning perspective 2 ESG proxy voting 51 Discussion questions 64 4 The development of ESG risk and the ESG rating system 66 4.1 Introduction to ESG risks 66 4.2 Policy risk 66 4.3 Headline risk 68 vi | ConTEnTS 4.4 Performance risk 69 4.5 Introduction to risk premia 69 4.6 ESG identification and the ESG rating system 72 Case study 4A MSCI ESG ratings 73 Case study 4B Sustainalytics 74 4.7 The impact of ESG risk on portfolio management 78 Learning perspective 3 How ESG indexes facilitate the evolution of finance 80 Discussion questions 91 5 Regulation, reporting, and taxonomy in ESG investing 95 5.1 Necessity of precise responsible investing terminology 95 Case study 5A Sustainable Development Goals 100 Case study 5B Mexico SDG-linked bond 103 5.2 Evolution of responsible investing terminology 104 5.3 ESG-related regulation 107 Case study 5C EU Sustainable Financial Disclosure Regulation 108 5.4 Developments in ESG-related data and reporting 109 Discussion questions 110 6 The impact of common investment theories on ESG investment trends 112 6.1 Shareholder theory vs. stakeholder theory 113 Case study 6A Dodge v. Ford Motor Co. (judicial foundation for shareholder theory) 114 6.2 Material information vs. non-material information 117 Case Study 6B Securities and Exchange Commission 17 CFR PARTS 211, 231 and 241 [release nos. 33–9106; 34–61469; FR-82] commission guidance regarding disclosure related to climate change 117 6.3 Resource-based view vs. Porter’s five forces model 119 6.4 Universal owner theory 121 Discussion questions 121 7 The current role of ESG investing in portfolio management 123 7.1 ESG investing in developed markets 126 Case study 7A Breckinridge Capital Advisors 129 7.2 ESG investing in emerging markets 133 Case study 7B Hot topic: fossil fuel-free (FFF) investment 134 Case study 7C SRI investing within hedge funds 135 Discussion questions 141 8 Common investor concerns regarding ESG investment strategies 143 8.1 Return concerns 144 Case study 8A Passively customized ESG indices by Aperio (BlackRock) 145 8.2 Policy concerns 151 8.3 Information concerns 151 Case study 8B Customized responsible investment policies to evaluate investment products – a case study from Germany 152 8.4 Regional concerns 160 Learning perspective 4 Sustainability and financial performance 161 Discussion questions 168 ConTEnTS | vii 9 Commonly held ESG views and practical considerations 174 9.1 Qualitative vs. quantitative models 175 9.2 Environmentally focused investing 176 9.3 Socially focused investing 180 9.4 Governance-focused investing 181 Learning perspective 5 The future of capitalism is feminine 185 Discussion questions 192 10 Methods for modeling risk and return for traditional investments 196 10.1 Fundamental analysis 197 Case study 10A Integrating ESG in DCF valuation: AllianceBernstein’s Global Core Equity 198 10.2 Quantitative analysis 202 10.3 Development of common method of risk and return 206 Discussion questions 209 Index 211 Figures 2.1 Socially responsible investment assets by region 15 2.2 Handprinting spheres of influence 23 3.1 Developed market fundamental equities areas of ESG consideration 37 3.2 Federated Hermes thematic approach to engagement objectives 44 3.3 Dynamics of EOS at Federated Hermes engagement process 46 3.4 Federated Hermes responsible investing platform 48 3.5 Climate change shareholder resolutions since 2010 55 3.6 Resolutions filed on corporate political activity 58 3.7 Decent work proposals since 2010 60 3.8 Workplace diversity proposals since 2010 61 3.9 Proposals on sustainable governance since 2010 61 3.10 Sustainability reporting resolutions since 2010 62 3.11 Conservative proposals filed since 2010 63 5.1 EU Taxonomy: Six Environmental Objectives 105 5.2 EU Taxonomy: Substantial Contributions and Conditions 106 5.3 Sustainable Financial Disclosure Requirements (SFDR) Classifications 109 7.1 Growth of ESG Assets by Region 2016–2020 124 7.2 Proportion of socially responsible investments (SRI) relative to total managed assets 124 7.3 ESG integration methodology 131 7.4 Breckinridge engagement priorities 133 7.5 Investment time horizons 136 7.6 Number of hedge fund signatories 139 7.7 Number of signatories 139 8.1 Tracking error in social scores 149 10.1 Skewness relative to normal distribution 205 10.2 A view of kurtosis 206