Includes integration of Sustainalytics ESG Research into equity research methodology
Independent investment research firm Morningstar announced today that it has begun formally integrating environmental, social, and governance (ESG) factors into its analysis of stocks, funds, and asset managers. This will include the integration of Sustainalytics research into Morningstar’s equity research methodology.
Morningstar stated that its equity research analysts will employ a globally consistent framework to capture ESG risk across over 1,500 stocks, identifying valuation-relevant risks for each company using Sustainalytics’ ESG Risk Ratings. Results from this research will inform Morningstar’s assessment of a stock’s intrinsic value and the margin of safety required before assigning a Morningstar Rating for stocks between five- and one-star.
Morningstar completed the acquisition of ESG ratings and research provider Sustainalytics in July 2020. The company’s security-level ESG Risk Ratings are a well-known benchmark among institutional asset managers, pension funds and other financial market participants integrating ESG factors into their investment processes and decision-making.
According to Morningstar, Sustainalytics data will be utilized and in a manner that aligns with Morningstar’s long-term oriented and fundamentals-focused investment philosophy through two principal channels: the Morningstar Economic Moat Rating, which measures a firm’s sustainable competitive advantage, and the Uncertainty Rating, which gauges the relative predictability of future cash flows. These frameworks will now incorporate the impact that long-term ESG risks have on each factor.
Dan Rohr, Head of Equity Research for Morningstar, said:
“Integrating ESG directly into the marrow of our research methodology helps us to widen the aperture of the traditional financial analysis and more precisely capture ESG risks that can exert a profound influence on long-term competitive dynamics and the sustainability of a company’s earnings.”
Wilco van Heteren, Sustainalytics’ Executive Director of ESG research, added:
“Investors need to understand what the long-term risks to a company are, how much of that risk is well managed by a company, and how much unmanaged risk remains. By affording material ESG issues a central role in a risk-based approach to valuation, Morningstar is reinforcing its long-term investment philosophy. We are excited that Morningstar is incorporating our ESG Risk Ratings into its equity research environment.”
The company also announced that its manager research analysts will analyze the extent to which strategies and asset managers are incorporating ESG factors as part of its new Morningstar ESG Commitment Level evaluation. Analysts will assess the analytics and personnel committed to each strategy and the extent to which the strategy incorporates those resources into the investment process. Morningstar will evaluate asset managers by considering how clearly the firm has articulated its ESG philosophy and policies, and the degree to which it has driven those policies through its culture and investment processes. The ESG Commitment Level evaluation of strategies and asset managers will follow a four-point scale of Leader, Advanced, Basic, and Low.
Haywood Kelly, Morningstar’s Head of Research, said:
“Investors are expressing their investment objectives in more-encompassing terms than ever before, and they’re putting their money where their mouth is. For companies, evaluating ESG risk is a business imperative to both meet diverse stakeholder needs and mitigate potential legal, operational, or reputational risks. Morningstar’s equity and manager research teams aim to address these trends and empower investors through long-term, methodological research approaches, bolstered by qualitative analysis and independent thinking.”