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Don’t take new sustainability ratings at face value, warns asset manager

12 September 2017

Kames Capital has raised issues with selecting funds based on the new sustainability ratings from ratings agencies.

Investors picking funds must not look at the new sustainability ratings from ratings agencies in isolation, as they fail to tell the whole story, says Kames Capital.

While the newly launched ratings have their part to play in highlighting sustainability among mainstream investing, they should only be considered in tandem with other factors, according to the specialist investment manager.

Georgina Laird, Sustainable Investment Analyst at the company says: “Whilst the rating agencies take a similar approach to one another in quantifying sustainability, they can arrive at very different conclusions for the same companies. Recognising that different approaches can result in different conclusions is vital for investors to understand before relying on the ratings as evidence of how sustainable a company or fund is.”

Laird says investors need to be aware that many of the ratings focus on the practices of the company, rather than the sustainability of the products or services they provide. In doing so, ratings may provide strong sustainability credentials to companies whose products may adversely affect society. Laird also warns that making comparisons within specific peer groups while rating funds could risk being misused, as it fails to capture the intention of the fund.

She explains: “A fund which scores highly in terms of ESG ratings does not necessarily provide positive social or environmental benefits. Likewise, an environmentally focused fund may not score highly in terms of ESG. We would encourage a more explicit definition of peer groups be made available by the rating agencies to assist users in understanding the content of the ratings.”

Kames Capital highlights three important factors investors considering sustainability should bear in mind. The first is products; what is a company making and what are its societal effects? The second is practices; how efficient are the company’s operations? Finally, improvement; how is a company improving its sustainability efforts over time?

Higher ESG scores are also closely correlated with market capitalisation, with larger companies having the resources to measure and report sustainability, while smaller companies often receive lower scores as a result of poorer disclosure.

Laird says: “It’s important for investors to blend a qualitative approach alongside use of sustainability ratings to ensure these particular nuances are captured. We believe the ratings agencies should consider the qualitative aspects of an integrated sustainability process into their methodology. Sustainability is not, and cannot be, just another dataset.”

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