Morningstar: Mapping sustainability

Based in Amsterdam, Steven Smit (pictured), head of Sustainability at the data and services provider has been central to setting up Morningstar’s Benelux presence in the early 2000’s and is now heading the company’s new sustainability rating, which is set to  affect some 20,000 funds in its database.

Commenting on the motivations behind the launch, Smit explains: “We look at it from the broadest possible view; society is changing, consumers are changing their buying behaviour by buying more healthy or green products, companies are expanding their organics ranges, governments are introducing new rules on, for example, recycling; all the actors in society are changing and investing is no exception to that.”

“Big institutional investors like PGGM initiated sustainable investments more than ten years ago. We think the sustainability trend is now moving from asset owners and asset managers to advisers and individual investors.”

“HNWI investors in particular have a strong bond to their wealth and are often very eager to know where exactly it is invested.”

Morningstar hopes to bring added value to the existing information on sustainability by focusing on the fund level, rather than on individual stocks, he adds: “There is hardly any information on funds, most data available is on individual stocks.”

To execute its work in the area of funds, Morningstar has teamed up with research provider Sustainalytics, which provides sustainability ratings on a company basis. “We are only rating funds that have at least 50% of  their assets covered by Sustainalytics; in practice, the percentage mtends to be much higher,” Smit stresses.

A portfolio’s sustainability is assessed by calculating the ESG (environmental, social and governance) score as a weighted average of company level ESG scores based on Sustainalytics data. In addition ESG related incidents on a company level are being tracked and, if necessary, deducted from the initial ESG score.

The final Morningstar Portfolio ESG Score is an asset-weighted average of normalised company-level ESG scores from Sustainalytics. Rather than pursuing an exclusion list, Morningstar decided to rate the sustainability of funds based on a bestin- class approach.

“Handing out Sustainability globe ratings works for all types of funds as long as we can identify sufficient holdings in a portfolio and have at least 10 funds within each
category to rate. This leads to a peer to peer visualisation rather than an absolute number in the universe,” Smit explains.

“A problem with the exclusionary approach is that we want to set one standard for more than 20,000 funds from Australia to Europe and the US,” Smit stresses, highlighting that exclusion brings with it a certain level of normativity.

“What is considered really bad in one country is accepted in another. For example, nuclear power is a big issue in Germany, but seen as a solution in France. We try to stay clear of value judgements, they should be made by the investors themselves,” he explains.

The best in class approach has resulted in a paradox, with some well-known SRI funds appearing not to perform better than their non-SRI peers. This can be explained
by the way many classic SRI funds tend to operate with exclusion lists; the Morningstar methodology does not reward exclusions, but instead focusses on the relatively
most sustainable company in a certain industry.

Will the ratings affect fund flows in the long run? Based on the initial responses, Smit is confident that they will. “Asset managers are calling us a lot, and the largest companies in the world are now actively in contact in order to find out what could happen. We also expect managers to take a more active role as shareholders.”

Mona Dohle
Mona Dohle speaks German and Dutch, she is DACH & Benelux Correspondent for InvestmentEurope. Prior to that, she worked as a journalist in Egypt and Palestine. She started her career as a journalist working for a local German newspaper. Mona graduated with an MSc in Development Studies from SOAS and has completed the CISI Certificate in International Wealth and Investment Management.

Read more from Mona Dohle

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