HomeRI ResourceMSCICombining E, S, and G Scores: An Exploration of Alternative Weighting Schemes
Research and White Paper

Combining E, S, and G Scores: An Exploration of Alternative Weighting Schemes

How an overall rating is constructed can have a significant impact on its usefulness to investors. In this study, we tested two approaches: equal weighting and backward optimization. Equally weighting E, S, and G pillar scores across sectors showed less financial significance than the stand-alone G pillar score—that is, without E and S scores—over the 13-year study period. Although backward optimization showed greater significance than the stand-alone G scores, this approach may underestimate the importance of ESG indicators to financial results over longer periods of time. These results suggest that investors seeking to combine E, S, and G into an aggregate ESG score should proceed with caution. A naïve approach such as equal weighting could introduce noise that decreases financial significance and a backward-optimized approach may ignore the importance of different time frames in how ESG risks unfold. Our findings illustrate the historical value in prospectively adjusting the selection and weighting of ESG Key Issues industry by industry to capture companies’ exposure to dynamic and emerging risks.

CATEGORIES: Investment Style: ESG