White Plains, New York — Paradigm Asset Management has a long history of accommodating clients’ objectives to incorporate and express their values through exclusion, which is the act of barring a company’s securities from being purchased for a portfolio due to business activities that are deemed unethical, harmful to society, or in breach of laws or regulations. Common examples would be avoiding so called sin stocks which are viewed as companies involved in activities that are considered unethical, such as alcohol, tobacco, gambling, adult entertainment or weapons. Or avoiding certain countries like Iran Act and Sudan.
However, according to Paradigm’s CEO James Francis the firm is now focused on allowing investors to invest in a way that willyield a “Constructive Impact” which differs from exclusion and ESG integration, which is defined by investors seeking to incorporate ESG information into investment decisions to help enhance risk-adjusted returns, regardless of whether a strategy has a sustainable mandate.
“Investors realized that simply excluding certain companies could helped reflect some of their ethical concerns, but it also lessens their ability to have a voice in the future direction of the company because you are not an owner. Said James Francis, while with ESG integration investors may accept some exposures that are less than optimum on ESG metrics, but they do so knowingly because it preserves the ability to engage with the company.”
Paradigm however wants to develop portfolios that have a “Constructive Impact”, according to James Francis, that seeks to simultaneously produce positive outcomes on the environment and/or societal issues while generating enhanced returns. This is accomplished by investing in companies that as part of their mission or corporate governance are intentional about impacting social or environmental issues.
Common ESG Investor Objectives
Source: MSCI ESGResearch.
While Environmental, social and governance (ESG) investment has been around for some time, the COVID-19 pandemic, Millennials and George Floyd have pushed the topic to the forefront. Investors more than ever are interested in rewarding companies that pursue ESG and sustainable goals. One factor is that the pandemic demonstrated that ESG stocks were more resilient during the disruption it caused in the markets.
According to Morningstar, sustainable equity funds outperformed their peers during the initial phase of the COVID-19 pandemic. While Millennials more interested in sustainable investing than any other generation. Based on a survey by Morgan Stanley in 2017, 90 percent of Millennials have expressed interest in a sustainable investing option within their 401(k) plans. Lastly, George Floyd and the spotlight that it has put on issues concerning race, and gender has made the S in ESG a global topic.
ESG criteria can be used to determine whether a company complies with the desired level of standards that are important to today’s mangers and investors. James Francis, CEO of Paradigm, stated that “having an investment process that can incorporate sustainability, environmental and social conviction will lead to better risk-adjusted returns for investors. And with the growing demand and insistence by investors, it is also a business imperative. We believe that sustainable investing and what we see as constructive impact investing will become the foundation for our clients’ portfolios going forward.”
Investors are increasingly asking their managers about their ESG policies and practices, and many will expect to see evidence that their managers have thought through the potential ESG risks to their investments. ESG encompasses a range of approaches. Some managers still simply screen out securities from a portfolio. While other managers could build portfolios entirely dedicated to investing in assets that generate environmental or social change.
Paradigm aspires to deliver the latter by following the framework that was created by the UN in 2015, that defines 17 goals aimed at solving serious global problems by 2030. The UN Sustainable Development Goals become popular with certain managers and investors, as it lays out relevant problems and potential solutions. MSCI, one of Paradigm’s ESG research data partners, provides ESG Sustainable Impact Metrics revenue data based on the problems defined by the SDGs. They have identified five actionable themes that address these problems.
MSCI ESG Research SDG Solution Themes and Categories
Paradigm acknowledges that there are many challenges that prevent managers from implementing strategies across all 17 goals currently because of two problems. For one, many of the goals are highly focused and there are not enough companies could meet even minimum ESG standards to create a portfolio James Francis stated. The other is Data.
“Data is still an issue in ESG,” he said. “While the data is not where the industry would want it to be particularly in the S of ESG, we felt that given our approach we have enough data to make strong inferences across certain goals. We have been collecting data for decades, in some cases, before we used it and we look at ESG data like any new sources of data. It must be clean, voluminous and timely”
Armed with quality data, the seasoned team can incorporate ESG into their five-step process to build portfolios.
The five steps include:
– Identify an investment theme
– Develop a well-informed custom universe based upon on economic rationale
– Use innovative software to identify and test the most effective and relevant metrics for current market
– Build and test the model
– Incorporate the signals into the stock selection model
Using their Collective Intelligence approach, Paradigm Asset Management analyzes millions of data points about the market, securities, sectors and factors before buying a stock, and ESG is now one of those factors that they can consider. They expect that including ESG along with market and behavior data will prove to increase the probability of outperformance overtime while also allowing investors to put capital into companies that are intentional about improving the ESG metrics they are most passionate about.
At the end of the day, academic research has shown that companies that focus their resources on relevant ESG issues are less risky, have lower cost of capital and are more likely to outperform. James Francis said that given the vast amount of data that exist today it is practically impossible for individuals toevaluate both the financial and ESG metrics without leveraging technology. But at the same time, he doesn’t believe that AI is or ever will be able to fully replace the intuition of the human mind. “It is not man or woman verses machine like many believe it’s us with machine that will when the race”.
“What is so exciting about the time we live in as investors is the availability of data across some many dimensions and you add in ESG and it becomes fascinating.,” he added. “When you look at tradition research, it was done at best at the sector or industry level. Now that approach has had mixed results because many of the most interesting companies don’t fit neatly into the standard industry-specific way, but with a data driven approach you can get an understanding of a company at a granular level much quicker. We can now identify relationships and correlations of a company to the market in ways not possible without the data andadvance tools we have built.”
Francis added that “Constructive Impact”, is not to be confused with being an activist investor. However, he does hope to be able to select certain companies within a portfolio to engage with management to make them aware of how they compare on metrics that are important to the stakeholders and encourage ways for them to improve upon what they are doing. One particular area that we hope to see improvement on across the board is disclosures related to measures of equality, leadership development and supplier diversity.
it’s about being able to have a conversation with a company’s management team “to understand why they’re lagging, make them aware and give them the opportunity to improve.”
About Paradigm Asset Management
Founded in 1990, Paradigm Asset Management is a leading minority & woman owned enterprise that specializes in managing innovative equity investment strategies for institutional investors. The data science approach, coupled with investment discipline, puts forth an optimal blend of market intelligence with technology.
Name: James Francis
Title: Chief Executive Officer
Company: Paradigm Asset Management, Co. LLC
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