How Higher ESG Ratings May Boost Returns During a Market Crash
By Tony Owens ‘24
Though it may feel like several years, it was only March 2020, when the coronavirus pandemic led to one of the steepest market downturns in recent memory. March 16, 2020, saw the largest ever single-day drop in the Dow Jones Industrial Average. It is impossible to deny that the early months of the pandemic saw some of the worst days in the history of the stock market.
Now in November 2021, it appears as though the market is in for another rude awakening. The discovery of the Omicron coronavirus variant, as well as continuing supply-chain related struggles, were largely responsible for declines of over 2% in the Dow, S&P 500 Index, and Nasdaq. With the possibility of a market crash ever-present, it is important to look back to 2020, and remember that investors that prioritized ESG investing often fared better than their counterparts during the steep decline in the U.S. markets.
Research conducted by Fidelity International shows that companies that received higher Fidelity ESG ratings performed better during the market crash. In their research, Fidelity analyzed the first three quarters of 2020 and “found that the strong positive correlation between a company’s relative market performance and its ESG rating held firm across the longer nine-month time frame”. According to their research, from January 1 to September 30, 2020, companies that received a rating of A finished with a positive return of 0.4%, while companies with a rating of B finished with a return of -2.4%, and the lowest-rated companies that received an E finished at an awful -23.0% return. It is clear that ESG investing provided stability for investors, while those that did not prioritize sustainable portfolios were often met with less positive results.
The main reason ESG investing performed better during the crash is because ESG focused firms tend to have lower beta values, which means they experience less volatility than the market average. In times of high volatility, ESG investing can offer downside protection in the event of a crash. This is a valuable asset to investors, especially given the turbulent nature of the stock market in the era of the coronavirus pandemic.
The duration for which COVID-19 will be with us is still unknown. As long as the pandemic is still ravaging the world around us, there remains the possibility of a violent market downturn. Many investors are already paying attention and making the necessary changes. While speaking with CNBC, Armando Senra, BlackRock’s head of iShares Americas, postulated that ESG investing could become a $1 trillion category by 2030. ESG investing is no longer a pipe-dream, and certainly is not an idea that sounds appealing but fails to work in practice. Investors everywhere are realizing the viability of ESG investing, and how it is especially beneficial during times of economic volatility. Those that are late to the party with ESG investing will likely find themselves far behind those who noticed the opportunity early on.