What are we looking for?
Canadian stocks with a positive ESG screen.
The screen
ESG, or environment, social and governance, is shorthand for three key criteria that socially responsible investors can use to evaluate a company.
Scrutiny using ESG-focused investment mandates not only promotes ethical business practices, it also helps investors avoid ownership in companies that may be subject to controversy and scandal.
Today, I’ve created a strategy that searches for ESG-friendly Canadian companies while seeking to steer clear of companies more highly associated with controversial topics. This strategy ranks stocks based on Sustainalytics’ ESG data:
- Overall ESG score measures how a company proactively manages the ESG issues that most affect their business; scores are from zero to 100, with 100 being the best;
- Controversy score provides an assessment of how a company’s controversies affect stakeholders, as well as the impact on the company’s reputational risk within 48 hours of alleged or actual misconduct being reported; score is from zero to five, with five being the most severe – low values are preferred;
- ESG peer-group score measures a company’s ESG score relative to their industry peers. Scores range from one to five, five being in the top 5 per cent of the industry – high values are preferred;
In order to qualify, stocks must have an overall ESG score in the top one-third of peers (today, this value is greater than or equal to 61); stocks must also have a controversy score less than or equal to three or an ESG peer-group score equal to three or higher. Lastly, stocks are required to have their five-year beta (measure of a company’s sensitivity relative to changes in the benchmark, here we use the S&P/TSX Composite Index) less than one to help avoid high correlation to the market.
More about Morningstar and Sustainalytics
Morningstar Research Inc. provides independent investment research in North America, Europe, Australia and Asia. Its research tool, Morningstar CPMS, provides quantitative North American equity research and portfolio analysis to institutional clients and financial advisers. Sustainalytics, a global provider of ESG research and ratings, is a strategic partner to Morningstar. Its company-level ESG ratings underpin Morningstar’s Sustainability Rating for funds.
What we found
I used Morningstar CPMS to back test this strategy from October, 2012, to March, 2018. During this process, a maximum of 20 stocks were purchased. Stocks were sold if their ESG score fell below the top third of peers, if their highest controversy score was greater than three, or their peer-group score was less than three. When sold, the positions were replaced with the highest-ranked stock not already owned in the portfolio. Over this period, the strategy produced an annualized total return of 13.8 per cent while the S&P/TSX Total Return Composite Index advanced 7.2 per cent across the same period.
Stocks that qualify for purchase into the strategy today are listed in the table below. Investors are encouraged to conduct their own independent research before purchasing any of the investments listed here.
Emily Halverson-Duncan is a director, CPMS sales at Morningstar Research Inc.
Emily Halverson-Duncan, CFA