ESG ratings – evidence for sector bias?

ESG ratings – evidence for sector bias?

ESG ratings – evidence for sector bias?

Our recent post on the subject of ESG metrics demonstrated the variability of the overall ESG rankings assigned to the FTSE100 companies by three ratings agencies, with some individual companies receiving both top and bottom quartile results. As an attempt to discern if there really is any underlying melody amidst the noise, we’ve now grouped companies by sector below. Whilst at first glance it doesn’t look all that much different from our last chart in terms of the spread of the data, which is to be expected, with each sector covering the spectrum from high – low performers, a closer inspection potentially indicates an element of bias in certain sectors. 

One provider appears to consistently be responsible for the lowest ranking assigned to extractives companies (basic materials). This is in stark contrast to the other two agencies, who assign much higher positions; the same pattern can be seen for the energy and health care sectors. However, the opposite picture emerges for technology, where our previous low scoring agency gives significantly higher ratings to all five companies in this sector, or consumer discretionary where again ratings are generally higher.

Taking the basic materials sector as an example, viewed through an ESG lens, with a focus firmly on the environmental and social, would possibly lead many to conclude that this apparent bias is the correct outcome ‘How can a company involved in the extractives industry with all the inherent potential environmental and social risks, possibly have a high score?’

However, this position potentially fails to consider governance.

A company operating in what is perceived as a ‘risky’ sector, with increased scrutiny, and often operating in accordance with international lenders’ performance standards, is more likely to have rigorous management systems in place, with a concomitant higher level of governance and management of environmental and social risk, than one in a more apparently benign sector. It should be noted however, that supply chain risks in a more ‘benign’ sector, such as consumer discretionary for example, can be significant with identification and management of supply chain issues cutting across the full ESG spectrum. Again, it highlights the need to understand the basis for the ratings, particularly with respect to treatment of risk. 

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