Coronavirus: How ESG scores signalled resilience in the Q1 market downturn

Key points

• Companies with the highest ESG ratings have proven more resilient in the coronavirus market crash than those with the lowest, AXA IM analysis of stock and bond market in Q1 2020 shows.
• In equities, stocks in the ESG Leaders category outperformed those in ESG Laggards by 16.8 percentage points in Q1.
• In fixed income, bonds in the ESG Leaders category outperformed those in ESG Laggards by 5.2 percentage points in the same period.
• In both asset classes, the ESG Leaders’ basket also outperformed its parent benchmark index.
• In a separate analysis, we looked at the impact of our firm-wide investment exclusion policies. We show that a portfolio of stocks which apply our exclusion lists outperformed the parent benchmark index by 47 basis points.

The growth of responsible investment over the past decade has largely coincided with the longest stock market bull-run in history. This has meant that we have not been able to observe how companies with different environmental, social and governance (ESG) ratings perform in a severe market downturn.
The coronavirus pandemic, which originated in Wuhan, China in late 2019, has resulted in a severe and rapid stock market decline. Some of the world’s major equity indices, such as the S&P 500 and FTSE 100, have experienced their worst quarter since 1987. The MSCI All Country World Index (MSCI ACWI), an index of equities from developed and emerging markets, fell by a third from its peak in early February to its quarterly low in late March¹ . 
At the end of the first quarter, we conducted an analysis of how companies with different ESG ratings performed in the bear market for stocks. We also conducted the same analysis for the bond market. We observed that in both asset classes, investments with higher ESG ratings – according to AXA Investment Managers’ in-house ESG quantitative scoring methodology²  –performed notably better and were more resilient in the quarter compared to investments with lower ESG ratings.

Equity market

A basket of stocks consisting of ESG Leaders outperformed ESG Laggards by 16.8 percentage points in Q1 2020.
For this analysis, we used the MSCI ACWI ³ as the base index, and used it to create two sub-groups:

• Stocks with the highest ESG rating (scoring 8 or higher on a 10 point scale) – we dub these the ESG Leaders.
• Stocks with the lowest ESG rating (scoring 2 or lower a 10 point scale) – we dub these the ESG Laggards.

We created two market-capitalization weighted portfolios. The results for Q1 performance were as follows:

The chart below shows the cumulative total return between the two portfolios.

When we delved into performance at the sector-level, we observed that Healthcare, Financials and Utilities had the most
marked differences in returns between ESG Leaders versus Laggards in Q1 2020.
We also conducted a risk analysis and found that the annualised volatility for the parent index, for the ESG Leaders and the ESG
Laggards was largely in the same range.

Corporate bond market

A basket of bonds consisting of ESG Leaders outperformed ESG Laggards by 5.2 percentage points in the same period.
We conducted the same analysis for the corporate bond market. We used Bloomberg Barclays Global Corporate Aggregate Bond Index⁴  as the base index.

We created two issuance-weighted bond portfolios. The results for Q1 total return analysis is as follows:

The chart below shows the cumulative total return between the two portfolios.

When we delved into performance at the sector-level, we found that all of the difference in total return could be attributed to corporate bonds from industrial issuers (corporate issuers excluding utilities and financial institutions). This sector group accounts for more than half of the index weighting. Also, ESG Leaders had lower volatility than the ESG Laggards.

AXA IM Exclusion Policies and Standards – Q1 Update

Earlier this year, we published an analysis of how our various exclusion policies and ESG investment standards at AXA IM had affected our investment returns⁵  over time. We re-ran the same analysis for Q1 2020. The results showed that our exclusion policies and ESG standards added to investment outperformance. The results were as follows:

We are very conscious that ESG scores cannot tell the whole story in what has been a dramatic time for the global economy. However, our initial analysis seems to show clearly that good ESG scores can be a signal of quality and resilience in tumultuous stock and bond markets. This would suggest that a portfolio skewed to higher ESG scores would offer a more defensive positioning for times of market stress. Further analysis will reveal whether ESG scoring offers similar results as the hoped-for recovery emerges.