MIKE HALLORAN, CFA INVESTMENT STRATEGIST JANNEY MONTGOMERY SCOTT LLC MEMBER: NYSE, FINRA, SIPC

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2 Michael Halloran, CFA A GUIDE TO ENVIRONMENTAL, SOCIAL AND GOVERNANCE (ESG) INVESTING December 21, 2018 Environmental, Social, and Governance (ESG) investing is a rapidly growing investment discipline that includes many factors that make up traditional corporate best practices. Consequently, many firms that score well on ESG metrics are also solid investment opportunities. ESG evaluation is also very popular with women and millennials two groups that continue to gain prominence in the investment world. This piece reviews ESG investing and provides ESG investment ideas. Definition of Environmental, Social and Governance (ESG) Investing Environmental, Social and Governance (ESG) investing (also referred to as sustainable, responsible and impact investing or socially responsible investing) utilizes a set of standards for a company s operations that socially conscious investors use to screen potential investments. Environmental criteria look at how a company performs as a steward of the natural environment. o Examples include energy and water use, waste, pollution, natural resource conservation, and impact on climate change or carbon emissions. o They also evaluate which environmental risks might affect a company s income and how the company is managing those risks. Social criteria examine how a company manages relationships with its employees, suppliers, customers, and the communities where it operates. o Do the company s working conditions show a high regard for its employees health and safety? o Does the firm employ a diversified work force? Is the Board of Directors well diversified? o Are stakeholders interests taken into consideration (stakeholders include employees, creditors, shareholders, government, and the community from which the business draws its resources)? o Does it work with suppliers that hold the same values the company claims to hold? Governance deals with a company s leadership, executive pay, audits, internal controls and shareholder rights. o Does the firm use accurate and transparent accounting methods? o Do common stockholders have the ability to vote on important issues? o Does the firm avoid conflicts of interest in the choice of board members? o Does the firm avoid engaging in illegal behavior or using political contributions to obtain favorable treatment? What constitutes an acceptable set of ESG criteria is typically subjective, so investors must do research to find investments that match their own values. As ESG-minded business practices gain more traction, firms are increasingly tracking their ESG progress. Many firms are now publishing detailed reviews of their ESG approaches in their annual reports. ESG Investing Growing at Rapid Pace According to the Global Sustainable Investment Alliance, global ESG assets under management is growing at a 25% pace and now exceeds $23 trillion with 53% managed in Europe, 38% in the U.S., and less than 10% held around the rest of world. While Europe leads the world, ESG investing in the U.S. is growing at a rapid clip. Recently released data from the US SIF Foundation (a leading voice for ESG investing) found that sustainable, responsible and impact investing (SRI) assets now account for $12 trillion or one in four dollars of the $46.6 trillion in total assets under professional management in the U.S. This represents a 38% increase over From the first report in 1995, when assets totaled just $639 billion, to 2

today, the sustainable and responsible investing industry has grown 18-fold and has matured and expanded across numerous asset classes. A diverse investor base holds the $12 trillion in U.S.

3 today, the sustainable and responsible investing industry has grown 18-fold and has matured and expanded across numerous asset classes. A diverse investor base holds the $12 trillion in U.S. ESG assets under management. This includes 496 institutional investors, 365 money managers and 1,145 community investing financial institutions. The largest percentage of money managers cited client demand as their top motivation for pursuing ESG incorporation, while the largest number of institutional investors cited fulfilling mission and pursuing social benefit as their top motivations. Money managers and institutions are utilizing ESG criteria and shareholder engagement to address a plethora of issues including climate change, diversity, human rights, weapons, and political spending. The ESG Investing Opportunity Women and Millennials driving growing interest in ESG incorporation % who agree social or environmental impact is important to investment decisions (2016) Studies Suggest a Link Between Corporate Social Responsibility Practices and Financial Performance Many research studies have demonstrated that companies with strong corporate social responsibility policies and practices are sound investments. Studies with such findings have come from Oxford University, Deutsche Asset & Wealth Management, Morgan Stanley Institute for Sustainable Investing, TIAA-CREF Asset Management, and Morningstar, among others. With the recent availability of higher-quality company-level ESG data, researchers have been able to dive deeper into the relationship between corporate sustainability practices and financial performance. These studies show a number of positive relationships between companies that employ best practices addressing ESG factors that face their businesses and financial performance whether measured in terms of financial results or stock price. This is in contrast to utilizing purely exclusionary screens (for example, broadly screening out sin stocks ) that can have a negative impact on a portfolio. Part of the challenge of ESG investing today is the breadth of topics spanned in corporate ESG disclosures with hundreds of metrics available to investors. The most useful ESG data can give insight into a company s culture and risk and typically coincides with corporate best practices. The following table reviews several key metrics available for ESG investors. 3

4 ESG Metrics Give Insight into Corporate Culture and Typically Correspond with Best Practices Topic Applicable Insight Relevant ESG Measures Human Capital Are employees happy and productive? Is the company an employer of choice? Does the company avoid expensive turnover? Employee turnover, training hours, average compensation, diversity, etc. Operational Excellence Company Reputation Regulatory Risk Source: Janney ISG, Goldman Sachs Does the firm use resources efficiently? Are working conditions safe? Does the firm employ appropriate controls to avoid accidents and controversies? Are the firm s products safe and environmentally friendly? Does the firm protect customer data and privacy? Does the firm provide poor customer service? Does the firm have strong ethical practices? Are production activities harmful to the environment? Does the firm maintain good community relations, including labor practices, ecological impact, and product pricing? Factors That Correlate Best With Stock Performance Injury rates, energy usage, water usage, waste recycling, etc. Renewable energy usage, in-kind product donations, product takeback rates, etc. Emissions, whistleblower incidents, fines and settlements, etc. A recent study by Goldman Sachs showed that many ESG factors that are associated with happy employees and efficient resource utilization are also positively correlated with stock performance. Diversity Resource Intensity Employee Turnover Emissions Target Metrics Business Ethics Improvement Tools Source: Janney ISG, Goldman Sachs ESG Analysis Tools ESG Factors That Correlate Best With Stock Performance Companies with higher levels of female employees have shown outperformance across many industries. Firms with low levels of energy and water intensity have performed well, especially for Basic Resource sectors (some of the largest users of energy and water). Companies with low employee turnover have generally outperformed their peers. Low emitters based on greenhouse gas emissions have generally outperformed their peers. Target metrics as a category (stated goals on ESG performance) were consistently linked to outperformance over time specifically those related to emissions, energy and water efficiency. This category (including whistle blower, ombudsman, suggestion box, hotline, etc.) is one of the few pure policy (non-quantifiable) metric that was consistently linked to stock outperformance. Due to the significant growth in ESG investing, investment analysis tools are becoming commonplace. Bloomberg (a provider of business and market news, data and analysis) now has an extensive database of ESG metrics, rankings and analysis. These can be used to assess a company's environmental, social, and governance performance, both over time and versus its peers. Environmental metrics include factors like greenhouse gas emissions per revenue. Social metrics include factors like percent of women employees, employee turnover, and lost time to incident rate. Governance metrics include factors like percent of independent directors, percent of woman board members, director meeting attendance, and board size. 4

5 RobecoSAM (an investment company focused on ESG investments) annually evaluates more than 3,500 companies around the world for their ESG practices. RobecoSAM s Corporate Sustainability Assessment rankings are included in Bloomberg s database and incorporate many of the metrics discussed above. These scores also determine membership in the Dow Jones Sustainability Indices. Actionable ESG Investment Ideas The stocks in the following list are all members of the Dow Jones Sustainability North America Index and score well in RobecoSAM s Corporate Sustainability Assessment rankings. Stock or Fund Ticker Sector Forward P/E Earnings Growth % Div Yield % Comments ishares MSCI ESG Optimized ETF ESGU Large Blend Includes companies that have positive environmental, social and governance characteristics. Calvert Equity Fund CEYIX Large Growth The Calvert Principles for Responsible Investment guide management s investment research analysis and decisions. Johnson & Johnson JNJ Health Care Leader in pharmaceuticals, medical device and consumer products. UnitedHealth UNH Health Care Largest managed care company in U.S. Group Microsoft MSFT Technology World s largest software developer, including Windows and Office. Cisco Systems CSCO Technology Develops technologies across networking, security, collaboration, applications and the cloud. Walt Disney DIS Communication Services Diversified global operations in theme parks, filmed entertainment, television broadcasting, and consumer products. Procter & Gamble PG Consumer Staples Leading global marketer of household and personal care products. Chevron Corp CVX Energy Global integrated oil company is making progress on ESG metrics. Duke Energy DUK Utilities Largest electric utility in U.S. and making progress on ESG metrics. 3M Co. MMM Industrials Diversified global firm providing coatings, sealants, and adhesives. Source; Janney ISG, Bloomberg Disclaimer: Past performance is no guarantee of future performance and future returns are not guaranteed. There are risks associated with investing in stocks such as a loss of original capital or a decrease in the value of your investment. For additional information or questions, please consult with your Financial Advisor This report is provided for informational purposes only and shall in no event be construed as an offer to sell or a solicitation of an offer to buy any securities. The information described herein is taken from sources which we believe to be reliable, but the accuracy and completeness of such information is not guaranteed by us. The opinions expressed herein may be given only such weight as opinions warrant. This Firm, its officers, directors, employees, or members of their families may have positions in the securities mentioned and may make purchases or sales of such securities from time to time in the open market or otherwise and may sell to or buy from customers such securities on a principal basis. 5

From niche to mainstream: how ESG principles are reshaping investing today

June 2016 From niche to mainstream: how ESG principles are reshaping investing today Leo M. Zerilli, CIMA Head of Investments John Hancock Investments As ESG standards become more uniform and as corporate