Deutsche Bank and Solactive have launched today the Solactive Sustainability Index Europe, a new index designed to track the performance of environmentally and socially responsible European companies, based on the data-driven platform Arabesque S-Ray.
Arabesque S-Ray is the first tool of its kind to rate companies on the principles of the United Nations Global Compact (human rights, labour rights, the environment, and anti-corruption) also known as GC Score, and comprises an extensive amount of environmental, social and governance (ESG) information about each company into a single, aggregated score.
According to Andreas Feiner (pictured), head of ESG Research, Arabesque, with this index investors "know that they're investing into companies that are screened for sustainability through the most extensive tool of its kind in the market".
"Sustainable companies have higher earnings potential and better risk-yield profiles then companies with a lower sustainability profile, and numerous studies have demonstrated this correlation," said Feiner. "We are witnessing a societal change with finance in that investors increasingly want to match returns with responsibility. Understanding of sustainability has changed rapidly over recent years because more and more investors recognise the link between ESG and performance."
Arabesque S-Ray is a proprietary tool that analyses the sustainability performance of the world's largest listed corporations, using machine-learning and data scores. The algorithm-based technology systematically combines over 500 ESG metrics with news signals from over 50,000 sources. Solactive then applies financial screens, such as liquidity and dividend-yield filters, to get to the final index composition.
According to Sabine Roeder (right), head of global investment solutions, Germany, at Deutsche Bank, the new index will be deployed via customised solutions such as structured notes to meet "the growing global demand for sustainability investment products".
"Deutsche Bank can offer a range of both standard and more customised payoffs on this index, allowing investors to benefit from ESG-filtered equity upside exposure with some downside protection," said Roeder. "This flexibility extends to the respective wrappers, ranging from OTC swaps and options to certificates or Schuldscheindarlehen."
According to Roeder, the low-volatility construction mechanism in the index "allows for attractive pricing compared to benchmark indices, specifically for structured products that involve some form of capital protection element".
The index strategy seeks to achieve a lower volatility than the Solactive Europe 675 Index benchmark and a comparable dividend yield. It also includes specific dividend-yield filters and weighs the components based on volatility optimisation.
Volatility optimisation
According to Timo Pfeiffer (below), head of research at Solactive, the new index will enable investors to gain access to ESG-compliant companies, while minimising the overall portfolio risk, achieved thanks to volatility optimisation.
"We are combining two of the most sought-after concepts in capital markets with a clear value-add for investors," said Pfeiffer. "This is the first Solactive index which is based on a pool of sustainable companies as screened by Arabesque, while at the same time exhibiting a lower volatility and similar dividend yield compared to a plain benchmark index."
Pfeiffer also noted that Arabesque are known in the market as the "sustainable quants" and that the partnership provides a very special combination that is "interesting to capture in an index".
"In addition, the Arabesque S-Ray tool assesses ESG performance of companies along the principles of the United Nations Global Compact, thus providing a different perspective on ESG not used until now in a Solactive branded index," said Pfeiffer.
Pfeiffer believes ESG will remain a key area for the index provider and the wider investment industry. "The demand is growing and, as ESG investing is becoming more mainstream, we expect to see more strategies targeting specific sub-sets, also combined with more smart beta factors," said Pfeiffer.
Arabesque's Feiner also pointed that demand from investors for sustainability criteria as a standard performance indicator for investment decisions, like a price-earnings ratio or dividend yield, has increased.
"Sustainability will continue to become an essential component in any risk analysis," said Feiner. "The quantifiability of sustainability aspects will increase as well, because data quality and quantity is improving year on year."
The global ESG trend will continue to grow strongly this year, with increased investor demand for a broader array of ESG products, according to Feiner. "Technology is changing investment management, through machine learning and our ability to process big data," said Feiner. "There are a lot of inefficiencies that will continue to be taken out of the system through good and effective use of technology."
According to Deutsche Bank's Roeder, the new index will provide new solutions to respond a "strong pick-up in client demand for including ESG factors into their investment strategies".
"ESG criteria are being incorporated in the form of filters or overlays for investments that previously did not have an ESG angle, or as stand-alone investments," said Roeder. "While the trend has started on the institutional side, we also see increasing demand from private investors for ESG-linked products. We believe that the integration of ESG factors into Equity indices and investment strategies more generally will over time become market standard."
Beyond ESG, Roeder pointed that the structured products market agenda for the first months of 2018 will be driven by the potential impact and consequences of Mifid 2 on the retail investment products market in general.
"In terms of investment themes, we think that yield enhancement will remain a focus in the ongoing low rates environment, especially if there are a few - hopefully temporary - periods of increased volatility this year that allow investors to enter at attractive levels," said Roeder. "On the equity side, given the equity levels we are seeing, we think people will look for more selective long equity exposure, based on strong themes or convictions, with good levels of protection. We also see increased demand for products allowing investors to position for an increase in rates and /or inflation, following a turnaround of global central banks' policy."
Related stories:
ESG structured products AUM is now over €4bn, BNP Paribas
Long term investors are changing the benchmarks of reference, BNP Paribas
Green bond segment is no longer operated on a product push basis, BNP Paribas
ESG is not about being different but about creating strategies that are financially material, SG
ESG fine tuning to push product innovation and investor choice