There is a common line being dragged through financial literature on the ever-increasing importance of ESG investing, to what extent it is primed to alter the investment industry, and how managers and investors should prepare for this ‘mega trend’. The line has become so ubiquitous as to be caught embarrassed if one is not aligned with this kind of thinking and seemingly agreed conviction.

It is therefore important to understand the implications of ESG integration into a portfolio. It is important when clients have particular requests relating to sustainable or responsible investment, that a manager can clearly articulate and explain the likely, or probable implications for the portfolio and what the impact (if any) may be on performance. It is important to explore and forecast the direction of the market, and the likely requests that one could receive from clients. It is important to understand and anticipate the most likely exclusion requests, and how they may align and compare with other clients’ exclusion requests. Since socially responsible values are in flux, it is necessary to monitor and update ESG policies accordingly. It is important to understand the shifting sands of ESG investment to be ready and prepared to offer insights as to how ESG investment strategies may affect a portfolio.

As systematic quantitative managers, our rules-based strategies should pass a minimum statistical threshold before being put into production, but the strategy should also be underpinned by economic rational. An ESG approach certainly satisfies the latter requirement, but such approaches have, thus far, not passed the first hurdle. We have, through our research, identified a variety of pitfalls of accounting for ESG as a systematic quantitative manager. Many of these same pitfalls have been identified by others, not only quants. We are committed to understanding and incorporating ESG information into our investment process when it becomes appropriate.

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