PGIM Quantitative Solutions' goal is to meet client investment objectives by closely managing portfolio exposure to expected risk and return. When determining portfolio holdings, we evaluate the impact of many factors on meeting these objectives, including Environmental, Social and Governance (ESG) factors.
We are strongly committed to understanding both ESG’s present and future investment implications, as well as our clients’ particular ESG goals and priorities, which we see as being more nuanced than conventional wisdom has generally acknowledged.
We are also focused on promoting ESG investment principles within the investment industry, in particular on improving the quality, quantity and consistency of the data disclosed.
Clear Separation of Facts and Opinions
The ESG landscape is extremely fluid. As the financial implications of issues such as climate change come into sharper focus and companies experience pressure to report relevant data, the relationship between ESG and investment returns may very well change. In the interim, we believe it is essential to keep a clear separation between conjecture about ESG’s future investment potential and what the data has to say about ESG’s historic impact on returns. Our own approach builds on this premise, employing thoughtfully designed systematic techniques to allow for client-directed integration of ESG factors into our portfolios without any expected degradation of performance. In the instances related to ESG factors where our research has thus far identified a clear historic link with higher returns, we already incorporate those signals as part of our regular alpha generation process.
While many investment managers today speak of the integral role ESG plays in their investment process, it is not always entirely clear what impact that has on portfolios. One of the most important contributions a quantitative process can bring to ESG investing is the ability to detail the ways in which a portfolio reflects different ESG factors relative to its other factors, as well as to the manager’s non-ESG portfolios. Ideally, a client should be able to see down to the individual stock level how ESG criteria shape the portfolio’s holdings and expected sources of return.
PGIM Quantitative Solutions' multi-dimensional ESG approach is highly transparent, with easily identifiable areas of ESG improvement. Our proprietary ESG process continues to evolve and adapt, incorporating the latest fundamental and ESG information, along with new process enhancements.
Flexibility to Client Needs
We recognize that investors today have a wide variety of goals and priorities for their ESG-related investments. These range from clients with very specific views on which companies they want excluded to those who view sub-par ESG practices as a risk factor to be weighed alongside other stock selection criteria. In our view, it is the responsibility of the manager to seek to optimize returns in accordance with client objectives, while catering to each client’s individual ESG preferences.
Widening the ESG Data Lens
The approach PGIM Quantitative Solutions takes to integrating ESG into portfolios takes advantage of our ability, as a diversified multi-factor manager, to substitute one highly rated stock for another in our models with minimal impact on expected return.
For clients who wish to invest with a more direct emphasis on ESG, we can employ a quantitative technique that identifies exposure to material ESG attributes, based on industry materiality guidelines developed by the Sustainability Accounting Standards Board (SASB). We can also score companies on their level of carbon emissions, to directly address the issue of climate change. Where emissions data is not available, our proprietary data completion technique can proxy data based on known return patterns and risk factors. PGIM Quantitative Solutions' quantitative expertise helps us translate these insights into intuitive and effective ESG scores.
Our process reduces exposure to companies with significantly low ESG ratings within permissible risk bounds and investment restrictions, and increases exposure to companies that score well. We carefully select and combine ESG metrics to evaluate each material issue for each stock in a given sector. We balance inputs from policy metrics with other quantifiable metrics to ensure that a firm’s purported ESG efforts are supported by observable actions. This reduces concerns of falling into ESG “traps.”
Client-directed restrictions, which include negative screening, can also be implemented within the portfolio construction process. Our proprietary optimization algorithm can take into consideration any country, company or industry restrictions that our client may impose.
Meaningful Investment and Sustainability Benefits
Central to PGIM Quantitative Solutions' ESG capabilities is the belief that ESG insights should be integrated and balanced against other performance drivers. This is intended not only to improve performance, but also to improve the quality of the resulting ESG exposure.
PGIM Quantitative Solutions only selects stocks with attractive ESG scores that keep the portfolio’s risk and return characteristics intact. We will not select a sustainable company for inclusion that introduces unintended factor exposures. Our approach seeks to produce an ESG solution that is risk controlled, positioned to outperform, and has a meaningfully improved ESG profile.
Advocating for More Accountability
We believe that strong governance leads to improved management of social and environmental issues, and we exercise our views and monitor our influence on investee companies through the proxy voting process. As a responsible investor and fiduciary, PGIM Quantitative Solutions' policy is to vote proxies in the best long-term economic interests of our clients (the appreciation in value of the investment over time). We consider various factors, such as the following, when voting on ballot issues that may arise: board quality, including diversity, tenure, and independence; executive compensation; industry-specific SASB materiality; controversies; carbon and other greenhouse emissions; fair pay; gender equality; and other social issues. Our research shows that board diversity, independence and experience typically results in stronger, more consistent returns over time.
Through our collective engagement with ESG-related organizations and data providers, we advocate for greater disclosure of ESG data, which we view as essential to identifying potential sources of risk that might not be reflected in market valuations, and to the further assimilation of ESG into mainstream investment practices. Consistent with the commitment PGIM Quantitative Solutions made when becoming a signatory to the United Nations-supported Principles of Responsible Investment (PRI) in 2015, we are focused on improving the quality and consistency of ESG reporting and data. PGIM Quantitative Solutions has contractually agreed to adhere to Japan’s Stewardship Code since 2016. In 2017, we became a member of the Sustainability Accounting Standards Board (SASB) Investor Advisory Group, through which we encourage companies to disclose information on their carbon emissions and other ESG-related factors. In 2018, PGIM Quantitative Solutions began supporting the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD), and in 2019, PGIM Quantitative Solutions became a signatory to the Investor Stewardship Group (ISG).
PGIM Quantitative Solutions also participates in various educational and collaborative events with other stewardship and governance organizations. We are members of the Council of Institutional Investors (CII), and we maintained membership in the International Corporate Governance Network (ICGN) through 2020. We also work with the Investor Network on Climate Risk (INCR)/CERES through the memberships held by PGIM, the global investment management business of Prudential Financial, Inc. (PFI), as well as through those held directly by PFI, our ultimate parent.
ESG at PGIM Quantitative Solutions
PGIM Quantitative Solutions' ESG Steering Council, comprised of senior firm executives, oversees all of our ESG efforts. The Council advises on our ESG and Responsible Investment policies, shapes our ESG research agenda and oversees our annual reporting as a signatory to, and/or supporter of various responsible investment-related principles and codes.
Our ESG investment policy is consistent with the values we ascribe to in our own firm, where operating to high ethical standards, robust risk management and a diverse and stable team-based culture have long been vital to our success. These policies complement the longstanding history of our ultimate parent, PFI, as a social purpose company and its ongoing commitment to building long-term value through sustainability. PFI today operates a $1 billion impact investing portfolio. With most of its businesses (including PGIM Quantitative Solutions) headquartered in downtown Newark, New Jersey, the company is a neighbor and leader working assiduously to make a positive impact on the world around us.