The STOXX Global ESG Leaders Index uses Sustainalytics data to help identify best-in class stocks. However, Volkswagen caught everyone by surprise and was ejected using a 'fast exit' procedure, says Konrad Sippel
Among the biggest losers of the emission-rigging scandal at Volkswagen was not just the company, but also investors who have been at the sharp end of the fallout.
With a market value loss of 40% in just one month and more than 60% since March, billions have been wiped off its market capitalisation.
For investors, this raises two key questions: how can I identify the stocks of sustainable companies? And how can I easily invest in these stocks?
By studying a company's sustainability credentials – in particular by looking at its workforce, clients and investors, as well as its attitude to society and the environment – you can see its ability to create added value for its stakeholders. This is no easy task and is something that investors struggle with.
According to the Global Sustainable Investment Review 2014, sustainable investments have increased by 61% from 2012 to 2014. Specialised research houses offer numerous solutions when it comes to identifying sustainable companies. A recently published environmental, social and governance (ESG) report by the research house Sustainalytics in cooperation with STOXX evaluated every company in the DAX, the German blue-chip index.
The best-in-class approach aims to ensure that the index consists of the leading sustainable global stocks and results in regular changes at the annual index review
The 128 ESG criteria used to score the companies were modeled based on the "Key Performance Indicators for ESG 3.0" standard defined by the German Association of Financial Analysts and Asset Management (DVFA) and The European Federation of Financial Analysts Societies (EFFAS).
The ESG report highlighted the reinsurer Munich Re as a leader in sustainability. In particular, the company fully incorporates sustainability and ESG criteria into its business model, from primary insurance and reinsurance, to its investment arm. While the average ESG rating of the STOXX Global 1800 index is predefined at 50, Munich Re is at 99 points. This contrasts with the average across all DAX companies of 71.
360° assessment of sustainability
It's not just the Volkswagen case that underlines why investors should take a company's sustainability credentials seriously. Scandals like the one BP experienced with "Deepwater Horizon" or the corruption scandal at Siemens show that sustainability matters across industries.
STOXX identifies the leading global companies in terms of ESG criteria together with Sustainalytics to calculate the STOXX Global ESG Leaders Index.
The underlying data is also based on the 128 ESG criteria defined by DVFA and EFFAS.
Volkswagen was excluded in September as a so-called "fast exit"
The main index consists of three separate indices, one for each indicator – E, S and G. To be eligible, a company has to score more than 50 points for each indicator and has to be in the top 25% for the respective factors.
This best-in-class approach aims to ensure that the index consists of the leading sustainable global stocks and results in regular changes at the annual index review.
The STOXX Global ESG Leaders index currently contains 348 companies, just 19% of the STOXX Global 1800, demonstrating the strict selection criteria.
At the last review, 62 companies or about 19% were removed from the ESG index, while 79 companies were added.
Top 10 components as of 30 September
- Intel Corporation, technology, US 0.48% of index
- TERNA, utility, Italy, 0.47%
- Swiss Re, insurance, Switzerland, 0.47%
- Snam Rete Gas, utility, Italy, 0.46%
- ADP, industrial goods and services, France, 0.46%
- Kao, personal and household goods, Japan, 0.46%
- Muenchener Rueck, insurance, Germany, 0.46%
- Unibail-Rodamco, real estate, France, 0.46%
- Adidas, personal and household goods, Germany, 0.45%
- Enagas, utility, Spain, 0.45%
As scandals and accidents can hardly be foreseen, the index methodology contains specific rules to adapt quickly to severe controversy surrounding member companies.
Most recently, Volkswagen was excluded in September as a so called "fast exit" based on this rule. This means that passive investors in a financial product based on the index would have divested from the affected company right after the scandal broke and would not have been exposed to subsequent losses following the initial drawdown.
With the selection of the components as well as the respective ratings being fully transparent, companies can assess their sustainability management based on the index results. Moreover, indexes such as the STOXX Global ESG Leaders provide investors an easy, cost-efficient access and offer a diversified portfolio of sustainable stocks. According to a study by the University of Oxford and Arabesque Asset Management, 80% of scientific research discovered a positive correlation of a selection based on ESG factors and financial performance. The STOXX ESG Global Leaders index has shown a healthy annualised return of 10.0% over the past five years. Its standard index universe, the STOXX Global 1800 index, posted 13.0% over the same period.
The STOXX ESG Global Leaders index is mainly used by institutional investors as a benchmark, eg. for their pension investment schemes. The index is often customised to their specific investment needs and priorities in sustainable investing. In addition, several structured products are based on iSTOXX indexes which use an ESG overlay in combination with other smart-beta overlays, such as for example the iSTOXX Global ESG Select 100 Index that selects the best ESG stocks with high dividend yields. To sum up, transparent sustainability indices are an essential instrument for investors to identify sustainable companies and to build diversified portfolios based on ESG criteria.
Konrad Sippel is global head of business development at STOXX Limited in Frankfurt, Germany.
