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Michael Blayney: Why it’s better to stay the course on sustainable strategies, even when energy prices are high

Pendal’s multi-asset team has been examining the performance of ESG-friendly companies over the longer term. Here’s what they found

INVESTING in sustainable funds is intuitively attractive to more and more people.

But when oil and gas prices soar as they did last year — leading to underperformance among sustainable funds — it’s not easy to stay the course.

It’s the type of scenario that Pendal’s multi-asset team faces on a regular basis, for example when making investment decisions for Pendal Sustainable Balanced Fund.

What factors might persuade an experienced, long-term investor to stick with the plan?

Firstly, research from Pendal’s multi-asset team shows it’s worth sticking with sustainable investments in such scenarios, because better-rated ESG companies outperform over the longer term.

More on that below.

Secondly, during those times, an active multi-asset manager can take steps to guard against single-risk factors such as rising energy prices.

“Investors with ESG strategies needs to have a long measurement horizon and be prepared to accept that their investments will have a slightly different performance cycle to a traditional, unscreened strategy,” explains Michael Blayney, who heads up Pendal’s multi-asset team.

“Investors need to understand their tolerance to that.”

“When you have a strategy that involves exclusions of particular sectors of the market, your fund is going to run into headwinds at times.

“Last year, particularly in the first part of the year, there were soaring oil prices. If you had a strategy that excluded or underweighted oil companies, then you faced headwinds.

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“One way we managed that was to buy renewables in Europe, which gave us exposure to European energy prices within our alternatives portfolio,” says Blayney.

“Identifying and positioning for these types of risk factors can help portfolios perform better in the long term, and provide investors with a smoother, more comfortable ride in the short term.”

What the research tells us for long-term ESG investing

Pendal’s multi-asset team has spent a considerable amount of time looking at the long-term benefits of ESG investing.

Analyst Rita Bodrina recently examined MSCI ESG data going back to 2000, measuring the performance of companies that rate well on ESG metrics, companies that rate poorly and those with a relatively neutral rating.

One finding was that better ESG governance practices result in more efficient use of company assets.

Using sales on total assets as a proxy for efficiency, Bodrina found that companies in the top 20 per cent of ESG-rated stocks were more efficient that those in the middle segment of ESG ratings.

And they were sharply better than the bottom 20 per cent of ESG-rated companies. 

The study also tested an assumption that a stronger ESG profile would result in more favourable valuations and a lower cost of capital.

The thesis was that ESG-friendly companies may be less exposed to risks and thus a safer investment.

Bodrina found that ESG companies were better valued by the market through time.

Most importantly the study also demonstrates that, based on cumulative returns over 22 years, low-rated ESG companies underperform. This occured on both a stock-specific basis, and by industry segments. 

Better future outcomes

These effects could grow in the future, the team believes.

“This is due to a mixture of the regulatory backdrop globally, consumer and investor preferences, and a clear nexus between value creation and the fair treatment of all stakeholders,” Bodrina says.

Blayney says the bottom line is that more highly rated ESG companies do outperform — though historically this has been due to the underperformance of poorly rated ESG companies.

“It’s an interesting nuance that most of the return benefit comes from avoiding the bad stuff,” he says.

“Lower-rated ESG companies have also been more prone to downside risk, which supports the contention that a portfolio that tilts away from poor ESG companies should be expected to generate better risk/return characteristics through the cycle.

“Paying attention to ESG factors alongside traditional financial factors leads to better returns and better management of risk.

“Investors certainly don’t have to give up returns if they choose a sustainable strategy.”

About Michael Blayney and Pendal’s Multi-Asset capabilities

Michael Blayney leads Pendal’s multi-asset team. Michael has more than 20 years of investment management and consulting experience. He was previously Head of Investment Strategy at First State Super and head of Diversified Strategies at Perpetual.

Pendal’s diversified funds provide investors with a variety of traditional and alternative asset classes and strategies.

The team — which also includes Allan Polley — manages our multi-asset portfolios with a focus on strategic asset allocation, active management and tactical asset allocation.

Find out more about Pendal’s multi asset funds:

Contact a Pendal account manager here

This information has been prepared by Pendal Fund Services Limited (PFSL) ABN 13 161 249 332, AFSL No 431426 and is current at May 4, 2023. PFSL is the responsible entity and issuer of units in the Pendal Multi-Asset Target Return Fund (Fund) ARSN: 623 987 968. A product disclosure statement (PDS) is available for the Fund and can be obtained by calling 1300 346 821 or visiting www.pendalgroup.com. The Target Market Determination (TMD) for the Fund is available at www.pendalgroup.com/ddo. You should obtain and consider the PDS and the TMD before deciding whether to acquire, continue to hold or dispose of units in the Fund. An investment in the Fund or any of the funds referred to in this web page is subject to investment risk, including possible delays in repayment of withdrawal proceeds and loss of income and principal invested. This information is for general purposes only, should not be considered as a comprehensive statement on any matter and should not be relied upon as such. It has been prepared without taking into account any recipient’s personal objectives, financial situation or needs. Because of this, recipients should, before acting on this information, consider its appropriateness having regard to their individual objectives, financial situation and needs. This information is not to be regarded as a securities recommendation. The information may contain material provided by third parties, is given in good faith and has been derived from sources believed to be accurate as at its issue date. While such material is published with necessary permission, and while all reasonable care has been taken to ensure that the information is complete and correct, to the maximum extent permitted by law neither PFSL nor any company in the Pendal group accepts any responsibility or liability for the accuracy or completeness of this information. Performance figures are calculated in accordance with the Financial Services Council (FSC) standards. Performance data (post-fee) assumes reinvestment of distributions and is calculated using exit prices, net of management costs. Performance data (pre-fee) is calculated by adding back management costs to the post-fee performance. Past performance is not a reliable indicator of future performance. Any projections are predictive only and should not be relied upon when making an investment decision or recommendation. Whilst we have used every effort to ensure that the assumptions on which the projections are based are reasonable, the projections may be based on incorrect assumptions or may not take into account known or unknown risks and uncertainties. The actual results may differ materially from these projections. For more information, please call Customer Relations on 1300 346 821 8am to 6pm (Sydney time) or visit our website www.pendalgroup.com

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