Chapter 8 pt 4 Flashcards
(65 cards)
1
Q
What does a GRESB’s full benchmark report provide a composite of?
A
- peer group information,
- overall portfolio KPI performance,
- aggregate environmental data in terms of usage and efficiency gains,
- a GRESB score that weights management, policy, and disclosure,
- risks and opportunities, monitoring, and environmental management systems,
- environmental impact reduction targets, and
- data validation and assurance.
2
Q
What is a challenge with GRESB report?
A
- Report depends on companies, funds and assets participating in the GRESB reporting assessment process
- For portfolios where a significant percentage of the fund’s holdings do not participate in the GRESB assessment, portfolio managers will need to supplement with their own ESG scoring.
3
Q
What geographic factor is increasingly analyzed in real estate climate risk assessments?
A
- Exposure to low elevation and proximity to coastlines, especially in population-dense areas vulnerable to sea-level rise.
- The effects of coastal erosion and flooding—ultimately leading to managed retreats—can meaningfully impact property values and insurance premiums.
- Indeed, one study indicated that residential properties in the United States located in areas exposed to sea-level rises already reflect a 7% discount relative to unexposed nearby home
4
Q
How do investors typically address the effects to risk-adjusted returns of ESG integration in portfolio management?
A
- Risk mitigation
- Alpha generation
5
Q
What are tail risks.
A
tail risks are generally long term in nature and describe a significant change or move by several standard deviations in the risk profile of an asset.
6
Q
What challenges exist in ESG performance attribution, especially in fixed income?
A
It’s difficult to isolate ESG contributions due to the complex interactions between factors like duration, country yields, and yield curves/spreads in fixed income portfolios.
7
Q
What are two main methods of performance attribution used by institutional investors?
A
- Brinson attribution (based on active weights like region, sector, stock)
- risk factor attribution (based on exposure to style or macro factors such as value, momentum, or volatility).
8
Q
What is Brinson attribution
A
- breaks down performance by how much a portfolio differs from a benchmark in terms of Region (e.g., U.S. vs. Europe), Sector (e.g., tech vs. energy), Stock-specific picks
- It’s good for understanding where returns came from, especially for equity portfolios.
9
Q
What is risk factor attribution
A
- looks at performance based on exposure to investment styles or macro factors,
- useful for understanding what types of risk drove performance—common in quantitative or multifactor investing
10
Q
What limitation exists in current performance attribution models regarding ESG?
A
- Neither Brinson nor risk factor attribution models currently allow for decomposing returns or risks based on ESG-specific factors.
- portfolio managers can’t formally separate ESG’s contribution to returns, which makes it hard to prove the value of ESG integration in quantitative terms.
11
Q
How do quantitative ESG strategies commonly adjust portfolio exposure?
A
- They often apply a tilt or overlay using ESG screens to increase or decrease exposure to certain ESG factors at a portfolio-wide (top-down) level.
- This means they adjust the overall portfolio structure based on ESG considerations, not necessarily targeting individual securities
12
Q
How can ESG be more directly integrated into quantitative models?
A
- A more advanced approach embeds ESG as a factor in algorithmic or multi-factor models.
- This allows ESG metrics to directly influence stock selection, just like traditional factors (e.g., value, momentum).
- ESG becomes part of the math behind which stocks are chosen—not just a filter applied after the fact.
13
Q
Which asset class typically has better ESG data coverage?
A
Equities, especially in developed markets and mid- to large-cap companies, tend to have better ESG coverage than other asset classes.
14
Q
What is ESG coverage?
1
A
- ESG coverage refers to the availability, depth, and quality of ESG-related data and analysis for a given asset, company, or region.
- ESG data coverage gaps—i.e., parts of a portfolio for which reliable ESG data is missing
15
Q
What might a coverage gap be due to?
A
- The corporate bond issuer may be too small for ESG rating providers to score.
- The bond may be a new issuer that has not yet been scored.
- It may be unlisted debt.
16
Q
What are two potential approaches to addressing coverage gaps?
A
- The simplest approach is to simply rescale the scoreable portion of the portfolio to 100% by proportionally resizing each scoreable position.
a. Example: If 80% of the portfolio has ESG scores, that 80% is treated as the full portfolio, and each of those positions is up-weighted proportionally. - The second approach is to apply Bayesian inference to the coverage ratio, effectively grossing it up to 100% by probabilistic inference.
a. It uses the known data to make probabilistic estimates about the unknown ESG scores of the uncovered portion. - Note that both approaches are generally reasonable with coverage gaps of up to roughly 25%.
17
Q
What are the 3 main apporaches to screening that the PRI recognises?
A
- Negative screening represents the avoidance of the worst performers.
- Positive screening is investment in the best ESG performers relative to industry peers across, as in the first approach, different criteria.
- Norms-based screening applies existing normative frameworks in order to screen issuers against internationally recognized minimum standards of business practice. Screening generally applies globally recognized frameworks, such as treaties, protocols, declarations, and conventions.
18
Q
What can negative/positive screening be applied to?
A
- sectors,
- regions,
- individual issuers,
- business activities and practices,
- product and services, and
- even security types, such as certain commodities.
19
Q
What are examples of the frameworks that norm-based screening can be based on?
A
- the UN Global Compact,
- the UN Human Rights Declaration,
- the ILO’s Declaration on Fundamental Principles and Rights at Work,
- the Kyoto Protocol, and
- the Organisation for Economic Co-operation and Development Guidelines for Multinational Enterprises.
20
Q
What are the 6 steps the PRI has outlined for investors implementing screening as an investment approach?
A
- dentify client priorities: Investors should clearly disclose the objectives of screening in fund documentation.
- Publicize clear screening criteria: Idisclose screening approaches in contractual agreements
- Introduce oversight: Investors should establish an internal control or compliance function that
1. oversees screening,
2. conducts reviews, and
3. considers any changes in screening criteria. - Adapt the investment process: Investors may want to consider refining the screening approach Depending on the desired portfolio exposure, investors may choose to use absolute, threshold, or relative exclusion methodologies.
- Review portfolio implications: assess and review the implications of screening for the portfolio, including changes in exposure to volatility, tracking error, and common risk factors.
- Monitor, report, and audit: Investors should implement process and data assurance control functions that are either internally or externally (third-party) assured.
21
Q
What does screening generally require?
A
- A quantitative lens
- An ESG dataset that offers wide coverage of global securities
22
Q
What is the impact of absolute ESG screening on certain industries?
A
- Absolute ESG screening tends to give low scores to asset-heavy and carbon-intensive industries (e.g., utilities using coal), helping investors quantify carbon risk but potentially skewing portfolio balance.
- it allows investors to conduct sensitivity analyses on ESG shocks (e.g., carbon price changes in the EU ETS) to assess portfolio resilience and correlation with ESG risks.
23
Q
Why might relative ESG screening be preferable to absolute screening?
A
Relative screening uses peer comparisons to maintain portfolio balance and diversification, avoiding wholesale exclusions that may increase active risk and reduce alignment with benchmarks.
24
Q
What is a common criticism of ESG screening?
A
- its reductive approach.
- In other words, its quantitative measure does not consider softer ESG forms, such as stewardship and engagement activities.
- investor whose portfolio focuses on long-term stewardship opportunities in poorly rated ESG companies will likely suffer from the poor perception of these companies at the portfolio level.
25
What is a sustainable investment-tagged fund?
1. may take a proactive stance by selectively stating that it invests in, for example, low-carbon or fossil fuel–free companies or firms that seek to address gender and diversity disparities in their workforce.
2. Still a lot of variability in sustainability ratings withing various sustainable investment labeled funds
26
What are top 3 'sustainable funds?
1. NEI Global Dividend
2. Berenberg sustainable World Equities
3. Artisan Global Discovery
27
What is the key difference between ESG optimization and exclusionary screening?
1. ESG optimization uses constraints to shape the portfolio based on ESG profiles, while exclusionary screening removes specific securities outright.
28
What does ESG portfolio optimization involve?
1. It requires setting upper and lower bounds for ESG variables and applying them on either an absolute or benchmark-relative basis.
2. E.g. Portfolio average ESG score must be in the top 30% of the benchmark universe.
3. Carbon intensity must be 30% lower than the benchmark
29
What happens to alpha exposure as carbon constraints tighten in a portfolio?
1. Alpha exposure generally decreases, as the optimizer avoids high-return but carbon-intensive assets.
30
What happens to the holdings overlap with the original portfolio as carbon constraints increase?
Holdings overlap decreases, meaning the optimized portfolio diverges more from the unconstrained version.
31
What happens to a portfolio's deviation from its benchmark as ESG constraints tighten?
The deviation increases, leading to higher tracking error and more active risk
32
What is a common target tracking error range when balancing ESG goals with benchmark alignment?
1. Around 150–200 basis points (bps), depending on how aggressive the ESG and carbon constraints are (conservative)
2. 220-300 (more adventurous)
33
What happens in the first 100 bps of tracking error in an ESG-optimized portfolio?
1. There is a positive correlation between higher ESG scores and lower carbon emissions.
34
Why does the correlation between ESG scores and lower emissions diminish beyond 100 bps of tracking error?
Because the portfolio starts underweighting companies with both low ESG scores and high carbon intensity, which increases divergence from the benchmark.
35
What does full ESG integration do?
1. Broadens ESG analysis beyond just risk mitigation
2. Enhances understanding of both risks and opportunities
3. Systematically embeds ESG into investment decisions and portfolio management
4. Combines quantitative data with fundamental approaches (e.g., active engagement)
5. Facilitates company engagement and improves communication with clients
36
How is full ESG integration distinguished from general ESG incorporation?
1. Circular (feedback-driven) process of financial and esg analysis and iterative engagement activities with company management
2. These effects end up being integrated into estimated valuation of the company
37
How does full ESG integration strategies differ from more traditional approaches?
1. They face fewer constraints and are not rule-based or box-ticking exercises.
2. Unlike best-in-class, they don't rely solely on external ratings to select securities, the ratings inform or complement but don't drive security selection
38
What is a key challenge of full ESG integration?
1. It often lacks easily understandable metrics like ESG scores or carbon exposure
2. Less transparent because it relies on proprietary, in-depth research rather than standardized metrics,
39
What do full ESG integration strategies often take greater efforts to do to combat lack of understandable metrics?
1. evidence internal and external research resources,
2. document how ESG analysis is embedded, typically in a process slide,
3. track and report on engagement activities with company management,
4. include portfolio exposure and weightings in sustainability themes, such as the SDGs,
5. provide positive impact measurements of the portfolio against such metrics as resource efficiency, water, and energy consumption, and
6. support the process with investment case studies.
40
What is the olderst approach to responsible investing?
1. Exclusionary screening
41
What are the ways that exclusions can carry significant implication from a portfolio management perspective
1. Higher tracking error
2, Active share
3. Unintended factor exposure
42
What is positive alignment/ best-in-class?
1. Uses a given ESG rating methodology to identify companies with better ESG performance relative to their industry peers
2. Expressed by investing in the top decile/quintile/quartile based on prescribed ESG criteria
3. Consistency of ranking methodology are key challenges these strategies face
4. Will be tested on both transparency and consistency
43
What is more difficult for best-in-class/ positive alignment to do?
Less ability to te apply proprietary research on lower-scoring companies that happen to exhibit positive momentum or improvement in their ESG metrics.
44
How is thematic investing often expressed?
1. Fundamentally and quantitatively
2. through active quant strategies or more passive vehicles such as exchange-traded funds (ETFs)
45
What are common sustainable themes?
1. Clean energy
2. Water
3. Demographic change
Health care
46
What were the historical factors that caused clean energy thematic themes to experience greater volatility?
1, exposure to changing regulatory incentives (subsidies),
2, a scarcity premium that reflected capital flows into and out of the sector,
3, poor cash flow profiles
47
What is example of pro-cyclical growth sector?
1. Clean energy
2. Underperforms when capital spending and economic cycle contract
3. Clean energy tends to perform well when the economy is expanding and companies or governments are spending money on new projects.
48
What sort of investment is water funds seen as?
1. Water funds are considered safe and steady investments.
2. They do well in uncertain times or when inflation is high.
But when the economy is growing fast, investors often prefer riskier, high-growth sectors, so water funds may underperform during those periods.
49
What are mission investments?
1. Subset of impact investing
2. Made by foundations or endowment funds to fulfill charitable objectives
3. Aim of improving living standards while delivering market returns or even sub-market concessional returns
50
What does Vise Eiris compare when doing portfolio analysis and reporting against the SDGs?
1, fund exposure relative to benchmark exposure,
2, overall, sectoral, and thematic contribution by the SDGs,
3. performance metrics by underlying security, and
4. a more detailed breakdown of how the provider classifies SDG contribution
51
Why is regional exposure important in SDG-aligned investing?
1. Because the SDGs were originally designed with a focus on developing economies.
52
What is additionality?
1. Additionality refers to the idea that an investment leads to positive social or environmental outcomes that would not have happened otherwise-without that investment.
53
What has composition of AUM changed?
1. Shift from active to index-based strategies
2. More than doubled as a % of total global AUM in the last decade
3. In US index-based ETFs and mutual funds hold 16% of total US equity market
54
What was the first exclusion orientated index?
1. MSCI KLD 400 social index
2. Now more mainstream ones e.g. Dow Jones Sustainability Index
55
What are single-factor ESG strategies?
1, provide investors a means to weight an index toward a style factor (MSCI Factor ESG Target Indexes) while also screening for companies that perform better on ESG metrics
2. Very dependent on screening methodology and ESG dataset used
56
What are common identifiers of value in investing?
1. Price-to-book ratios and free cash flow multiples.
57
What are the main limitations of ESG datasets compared to traditional financial data?
1. Lack of history, comparability, and regional breadth
58
What happens when certain sectors like tobacco or fossil fuels are excluded from an index?
1. The index naturally tilts toward other sectors, such as technology and healthcare.
2. Tobacco and fossil fuels are more mature and value orientated
Excluding economically meaningful sectors from an index will generate a higher tracking error
59
What is difference between tracking errors caused by active management vs exclusion?
1. Active managers often intentionally create tracking error by making unique bets (e.g., overweighting certain stocks or sectors) to try to outperform the index.
2. But excluding entire sectors (like fossil fuels) is a different kind of tracking error-it's not about trying to beat the market through insight, but about aligning with values or ESG goals.
60
Describe engagement with index-based approaches:
1. Are capable of proxy voting
2, But limited ability to engage with portfolio companies unless coordinated by an established stewardship team
3, May be more shallower forms of stewardship with companies rather than more focused, sustained active engagement opportunities
61
FTSE Russell developed an outline of the range and depth of ESG indices. What do ESG investor motivations prioritise?
1. ESG analysis on a holistic basis and subsets of ESG themes e.g. climate and environmental
2. Ethical and normative exclusions
3. Single ESG themes such as diversity as measured by female board representation
62
What is potential impact on portfolio volatility of thematic investing?
1. Could increase or decrease
63
How long have ESG indexes been around for?
1. First established in 1990
64
What does ESG integration focus on
1. Measurability
2. Comparability
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