Nordea has concluded that investing in companies with improving ESG performance, or positive selection strategies, could result in higher returns compared to a pure divestment or best-in-class approach.
Positive selection differs with a best-in-class approach as it does not necessarily focus on the best ESG rated companies but all companies whose ESG performance are on a positive trend, with room for further improvement.
In a new report which analysed existing research on the topic, the Nordic financial giant found that divesting worst performing companies or only investing in ESG leaders could put pressure on returns due to a loss of diversification.
The report said while exclusions could boost returns, historical data showed that “short-term excess returns … are more about coincidences when an excluded sector underperforms”.
It concluded: “Positive selection strategies could be a ‘sweet spot’ because they take advantage of ESG factors, have a high level of sustainability without restricting the investment universe too much as the best-in-class strategies eventually do.”
Eva Palmborg, Nordea’s Head of Sustainable Investments and one of the report’s authors, also drew a link between investment performance and policy.
She said: “It seems that there is a link between legislation and the financial return where market participants try to interpret these signals in the financial valuation. We see that the strong return in Europe coincides with a significant increase in regulations in this area during the same period.
“The question is not whether by investing sustainably you can combine financial and non-financial motives, but what difference you want to make and at what risk.”
The EU is currently in the second phase of its Action Plan on Sustainable Finance, a regulatory initiative aimed at mobilising investment capital for sustainable activities.