The Financial Times reports that over the first 4 months of 2020, the S&P 500 ESG Index outperformed the normal index by 0.6%, and the MSCI Emerging Markets ESG Index and Asia-focused Asia ESG leaders index outperformed their parent indices by 0.5% and 3.83% respectively. Blackrock also reports outperformance by most ESG indices globally over their non-ESG peers.
Blackrock attributes most of the outperformance to two issues:
- Momentum: Inflows into open-ended ESG funds were 41% higher in 1Q20 than 1Q19.
- The increased C-suite focus on better supply chain management and corporate governance has led to operational and financial improvements and improved ‘resiliency’, which the market values more highly in the COVID‑19 era.
While the ‘E’ garners the lion’s share of attention in ESG coverage, Cyberhedge research demonstrates that the technological governance in ‘G’ is not only the most important governance issue, it also helps improve a company’s ‘E’ as it is essential to producing products more efficiently with less waste and more renewable fuels. The French utility Engie (formerly GDF Suez) is an instructive illustration of this dynamic: its digital transformation strategy centers around ‘digitized energy’, including leveraging big data and digital tools to unlock energy efficiency gains and improved network management.
The article correctly points out that markets and C-suites are paying more attention to ‘resiliency’ in the wake of COVID‑19 amidst a general belief that too great of a focus on ‘efficiency’ resulted in fragile supply chains. But it is important to distinguish between ‘good’ and ‘bad’ efficiency. The ‘bad efficiency’ that maximizes overly complex, dispersed and just-in-time supply chains at the expense of resiliency must be distinguished from the ‘good efficiency’ of reduced waste in the production process that improves productivity, operational efficiency and sustainability. Implementing and managing this effectively is a big part of a company’s digital transformation strategies, and companies with good technological and cyber governance in general do a better job at this.
The Cyberhedge Cyber Governance Indices are proof of this. The indices measure the differences in equity returns between companies with strong cyber governance and technology management versus those that are weak at cyber governance. Winners and losers are selected not just between sectors but also within sectors. The outperformance of the top quintile companies versus the lowest quintile companies in the Cyberhedge Cyber Governance Indices is consistent across sectors and is market-based proof that these differences are measurable and material. Indeed, these indices have shown even greater outperformance (both year-to-date, and over the full lifetime) for top rated companies than have the ESG Indices highlighted by the Financial Times and Blackrock. Worst-in-class companies on cyber governance underperform by an even wider margin.