Dive Brief:

• An analysis of the returns from equity strategies focused on environmental, social and governance (ESG) goals reveals no outperformance when adjusted for risk, according to a study by Scientific Beta.

• “Claims of positive alpha in popular industry publications are not valid because the analysis underlying these claims is flawed,” Scientific Beta said, adding that ESG investing does “not offer significant downside risk protection either.”

• “Our findings do not question that ESG strategies can offer substantial value to investors,” Scientific Beta says, adding “instead, they suggest that investors who look for value-added through outperformance are looking in the wrong place.”

Dive Insight:

The Scientific Beta study coincides with rising investor demand for ESG-related products and services and tougher scrutiny of ESG risks and corporate disclosures by the Securities and Exchange Commission (SEC) under the Biden administration.

The SEC said last month in a “risk alert” that some investment advisers, investment companies and private funds may have misguided investors about their approach to ESG investing.

The SEC found in an examination that some investment firms lacked sufficient policies and procedures for ESG investing, provided “weak or unclear” documentation for ESG-related decisions and pursued compliance efforts that did not appear to safeguard against flawed disclosures or marketing information.

The SEC uncovered “some instances of potentially misleading statements regarding ESG investing processes and representations regarding the adherence to global ESG frameworks,” according to a review by the agency's examinations division.

The SEC in March mentioned climate-related risks first in its description of priorities for this year. “We are integrating climate and ESG considerations into the agency’s broader regulatory framework,” then-Acting Chair Allison Herren Lee said in a statement.

The division noted in its risk alert last month that some investment companies did not follow through with commitments to clients on proxy voting.

Some companies managed their investment portfolios in ways that contradicted their public disclosures about their approaches to ESG principles, the division said. For example, they invested in companies with low ESG scores or failed to meet public commitments to follow global ESG frameworks.

Some companies also lacked controls that ensured they adequately took into account their clients’ investing preferences on ESG matters, the SEC said.

Meanwhile, ING found in a survey released last month that 72 out of 100 institutional investors and family offices in the U.S., Europe and Asia-Pacific are seeking better ESG outcomes in their portfolios.

Forty-two percent of institutional investors said last year that they incorporate ESG factors into investment decisions compared with 22% in 2013, according to a Callan survey of 102 institutional investors released in October.

Many of the world’s largest investment firms champion ESG investing. In his "2021 letter to CEOs,” BlackRock CEO Larry Fink said that companies with better ESG profiles outperformed their peers last year.

“During 2020, 81% of a globally-representative selection of sustainable indexes outperformed their parent benchmarks,” Fink said. “This outperformance was even more pronounced during the first quarter downturn, another instance of sustainable funds’ resilience that we have seen in prior downturns,” he said. “And the broader array of sustainable investment options will continue to drive investor interest in these funds, as we have seen in 2020.”

The perception of outperformance by ESG equity strategies has grown with investor interest in such investing, Scientific Beta said, adding "recent strong performance of ESG strategies can be linked to an increase in investor attention.

“We find that alpha estimated during low attention periods is up to four times lower than alpha during high attention periods,” Scientific Beta said. “Therefore, studies that focus on the recent period tend to overestimate ESG returns.”

ESG equity investing can offer advantages by enabling investors to align investments with their values, make a positive social impact or reduce climate or litigation risk, Scientific Beta says.  “Such benefits offset lower expected returns.”

Still, “there is no solid evidence supporting recent claims that ESG strategies generate outperformance."