Many investors will still tell you that responsible investment approaches begin and end with negative screens – excluding whole sectors such as oil & gas from portfolios. This is entirely understandable: if an investor wants an ESG integrated portfolio, it seems strange to continue to hold oil stocks. But when you apply this to a market-cap index – such as the MSCI World with its whopping 5% energy weighting – exclusion means allocating more to the technology and finance sectors as a result, perhaps not necessarily the diversification you might have been looking for from an index.

It’s also important to think about what exclusions do to your factor exposure. Swapping energy for tech might have been great for returns these past five years, but on a factor basis that means you will be overweight growth and underweight value going into the next turn of the economic cycle.

In this conversation, we discuss the unintended consequences of exclusions and dive into the ways ESG analysis can be integrated into index products to give you a high ESG impact without a high tracking error.

To find out more and read Dave’s full research paper, visit: www.lgim.com/friendorfoe?cid=lgimtalks

·         Dave Barron, Head of Index Equity & Smart Beta

·         Robert StGeorge, Content Manager

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