ESG data files - part 3, continued: ESG rating providers

Channels: ESG, ESG Data

Companies: MSCI, Sustainalytics, Schroders, RobecoSAM, Barrick Gold, Fundsmith, Hermes, Telefonica, ISS-oekom, AXA IM Rosenberg, Man Group, Mapfre

People: Andy Howard, Bob Mann, Andreas Hoepner, Terry Smith, Matt Moscardi, Hamish Galpin, Gema Esteban Garrido, Kristina Rüter, Kathryn McDonald, Jason Mitchell, Manjit Jus, Jose Luis Jimenez

The second instalment of this analysis of ESG rating agencies finds that investors are increasingly drilling down into the data that underlies the ratings. Peter Cripps reports.

Read the first part of this feature here.

For Spanish telecommunications company Telefonica, ESG rating agencies do not communicate adequately with the companies they rate, and too much of the vast amounts of data they request seems aimless.

Gema Esteban Garrido, who is in charge of sustainability reporting at Telefonica, says: "In my experience, the relationship with these [ESG ratings] companies and indexes needs to change."

"A lot of the time the information gathering has not been done very well, and sometimes is not up to date," she says. "They send it to us [before publishing it], but the process by which they change the information is not open or done very well.

"It's quite difficult to talk to them. I understand that they want to remain objective. But what about the context behind the KPIs?

"I think it would be very useful to align KPIs with the wider strategy [of the company]. That conversation would be very rich.

"It's surprising, this lack of interaction. Investors do their own analysis and have their own KPIs and we have nice conversations with them."

She suggests some ESG rating companies lack the resources in terms of staff to be able to do this.

 

Early warning system

Despite these criticisms, investors are still adopting ESG in their droves. ESG ratings clearly have their uses, despite their imperfections.

Kristina Rüter, head of methodology at rating provider ISS-oekom, says its ESG report could have been used to help spot some of the problems at PG&E.

California's biggest utility said in January it would file for bankruptcy, citing an estimated $30 billion in liabilities and 750 lawsuits from wildfires potentially caused by its power lines. It has been referred to as the first climate change-related bankruptcy because drought and heat helped create conditions that aided the spread of the fires.

ISS-oekom's ESG reports about the company pointed to insufficiencies in relation to the management of the company's network operations, highlighting incidents of previous fires and saying that there were risks of more to come.

In 2017, the 2015 'Butte Fire' triggered a significant downgrade of the section 'reliability of the power grid' in PG&E's rating, from C- to D, once the company's liability had been established.

"There were clear signals in the rating that could have been used to predict that they were very prone to hazards such as causing wildfires due to not effectively mitigating increasing climate-change-induced risks related to their assets," she says.

Other rating agencies can make similar claims regarding other firms. MSCI, for example, says credit reporting company Equifax was flagged for poor management of data security and privacy issues ahead of its 2017 data breach, for which it was recently fined $700 million.

Meanwhile, Sustainalytics argues that Boeing had "a relatively strong flag" (Category 3) due to a number of quality and safety issues with Boeing's products, production delays and lawsuits, ahead of the crashes of its 737 Max planes. It also says it flagged up the risk of fires at PG&E.

 

Drilling down

Investors, as they grow increasingly sophisticated, are not just using ESG ratings, but are drilling down into the data that underlies them in the reports, and are requesting raw datasets from the data providers. This is a trend observed by all the data providers quoted in this feature.

MSCI's Moscardi says: "There's a vast misunderstanding about what an ESG rating is supposed to do - 'Why is there a discrepancy between two ratings?'

"A lot of investors use them as a standard starting point and then look at whether they agree or disagree. I think of our ratings as a probability of material cost."

Investors use this underlying data in varying ways. Some might use it as the basis for engagement. Others might use it for negative screening.

For some investors, the imperfect nature of ESG ratings and the ESG data that underlie them, represents an opportunity. Through analysing and manipulating or cleaning this data, they hope to uncover alpha opportunities.

Kathryn McDonald, AXA IM RosenbergKathryn McDonald, head of sustainable investing at AXA IM Rosenberg, says the firm buys ESG data from "a variety of third-party data vendors – all the well-known names".

"In our approach, we are only interested in the most granular data. We are not interested in vendors' 'top line' ESG scores but instead want the data that underlies those scores."

Some asset managers are sourcing their own ESG data. Spanish insurance giant Mapfre in November 2017 bought a 25% stake in French investment boutique La Financière Responsable (LFR), partly to supplement the ESG data it buys from ESG rating agencies.

José Luis Jiménez, chief investment officer at Mapfre, explains that LFR has its own proprietary dataset based on its analysis and questionnaires. Its ‘L'Empreinte Ecosociale’ tool looks at companies' practices towards all their stakeholders, including staff, customers, suppliers, partners and shareholders.

Jiménez says this data helped it launch an inclusivity fund, which invests in European companies that  actively seek to include disabled people within their workforces. He says the data that helped select these companies was not available from the main ESG data providers.

Asset manager Man Group in July announced that it had come up with its own tool to make sense of the expanding universe of ESG data.

Man Group ESG Analytics applies advanced data science and quantitative analysis to "disaggregate multi-vendor ESG datasets", allowing it to generate a proprietary, holistic score for the sustainability profile and impact of a business.

Datasets from three leading ESG data providers are integrated into the platform – Sustainalytics is used for ESG scoring and controversies data, MSCI for ESG scoring, and Trucost for environmental data. The dashboard provides investment teams with the ability to drill-down into this data at a company, portfolio and index level to further enhance analysis, making it easier to identify potential ESG risks.

Jason Mitchell, co-head of responsible investment at Man Group, said the tool will help to "identify and understand all the dimensionality that ESG represents".

Manjit Jus, head of ESG ratings at RobecoSAM, says: "If you are just buying or using ESG data, you should understand what's under the hood.

"For a long time, people were buying ESG datasets because they felt they had to in order to fulfil their commitment to sustainability. But now more and more people are understanding the data. They have their own ESG teams to make sense of it, and there are a lot of questions around what's behind it.

"There's a shift in the market currently, a demand for more transparency and the underlying methodology, so people can really feel comfortable making decisions based on the data."

He points out that RobecoSAM is in a unique position, as an asset manager that gathers ESG data for its own research, products and clients and for its partnership with S&P Dow Jones Indices, for example on the S&P ESG Indices or the Dow Jones Sustainability Indices.

MSCI's Moscardi says ESG data often needs interpretation.

"You have to make sense of ESG data," he says. "It's not so much knowing what you own as knowing why you own it.

"ESG data has moved beyond the question of how good is the data. It's now about how you use it. We have moved the discussion from disclose, disclose, disclose to invest, invest, invest."

A comparison of the way three ESG rating providers score the same companies can be read here.

This article is part of a series of features exploring ESG data.

  • To read 'The ESG data files – introduction, click here
  • To read 'The ESG data files – part one: reported data', click here
  • To read 'The ESG data files – part two: non-reported data', click here
  • To read 'The ESG data files – part three: ESG rating agencies', click here
  • To read 'The ESG data files – part four: fixed income data’, click here
  • To read 'The ESG data files – part five: the impact of the EU’s taxonomy’, please click here
  • To read 'The ESG data files – part six: TCFD and the challenge of looking forward’, click here