State Street focuses on 6 data vendors for ESG analysis

Gaps and guesswork are part of the process for portfolio managers incorporating environmental, social, and governance (ESG) data into their investment processes, as the pool of available ESG data is highly variable and difficult to correlate.

WatersTechnology has reported that these gaps in the data are holding asset managers back from truly understanding how well a corporate is performing on these measurements. The problem is that the various ratings providers with a focus on ESG scoring come to their results in divergent ways and present the information using a variety of different methods; there is no single overarching standard to pull together these disparate methodologies.

Chris Berry, head of ESG product for State Street’s asset servicing arm, hopes that this will change in the next few years. But for now, he says, his careful selection of data from six different providers helps him to advise State Street’s asset management clients on ESG.

“We hear from a lot of clients that they struggle with the differences between ESG datasets, and which data provider to believe—who’s got the best data out there?” Berry says. “The answer to that question also depends on what you are looking for: Different investors have different priorities and understandings of what constitutes concepts like ‘sustainability.’”

Though official efforts to standardize reporting, such as the Sustainable Finance Disclosure Regulation and the EU taxonomy for sustainable activities, are poised to come into effect in the next couple of years, criticism of the reliability of corporate disclosures of ESG factors continues. Ratings and data providers can pull together a company’s self-reported ESG data but come up with completely different scores. For asset managers trying to navigate the different ratings providers, Berry says the challenge is knowing what provider to use or trust for their intended purpose. “It’s not that one dataset is necessarily better than another; it’s that they’re designed to measure different things,” Berry says.

The Contenders

To answer its clients’ questions, State Street began a search for the data providers that could work best in conjunction with each other, whereby each provider selected offers an integral piece of data that verifies or negates an overarching ESG thesis.

After a due diligence process, analyzing over 60 different ESG data providers, State Street landed on these six as the winners: MSCI, Sustainalytics, IdealRatings, Trucost, Arabesque, and Truvalue Labs.

Index and data behemoth MSCI provides an ESG rating service that is designed to measure a company’s resilience to long-term, industry-material ESG risks. It uses a rules-based methodology, bucketing companies as leaders (AAA, AA), average (A, BBB, BB), and laggards (B, CCC).

Sustainalytics, which was launched in 1992 as Jantzi Research, offers a range of services, including its flagship ESG Risk Ratings (which uses a 100 to 0 score), research reports, and data analytics. It has data on 40,000 companies globally and ratings on 20,000 companies in 172 countries. Sustainalytics has a strong presence in the fixed-income space and was notably acquired by Morningstar last year.

IdealRatings, which was established in 2006, has two business units: ESG & Responsible Investment Solutions, and Islamic Finance Solutions. The latter provides web-based tools for screening and compliance around ethical and Sharia-compliant investing, covering over 40,000 equities, 3,000 sukuk bonds, and 850 REITs, globally. The ESG & Responsible Investment Solutions unit has a product that combines 130 inputs to develop letter grades—AAA down to CCC—where the key performance indicators (KPIs) are tied to the industry the company serves. So, for example, the “health and safety KPI” is considered to be material for energy production sector and not material for the financial sector, according to the company.

Trucost, which was bought by S&P Dow Jones Indices in 2016, provides a range of services, but it has a very strong carbon data and analysis offering, as well as indicators around natural capital investment, which allows users to measure risks based on the disturbance of natural resources, such as soil, air, and water.

Arabesque is something of a hybrid company, which has an asset management arm in addition to S-Ray, an ESG research company that provides a swath of data and tools to assess the performance and sustainability of companies around the globe. S-Ray was launched in 2013 and offers assessments of companies based on the core principles of the United Nations Global Impact, sector-specific ESG scores, and metrics that quantify how much individual companies are contributing to the rise in global temperatures.

Finally, Truvalue was founded in 2013 and is headquartered in San Francisco. It applies artificial intelligence (AI)-driven technology to over 100,000 unstructured text sources in 13 languages, including news, trade journals, non-governmental organizations and industry reports, to provide daily signals that identify positive and negative ESG behavior. Its coverage spans over 19,000 public and private companies and generates short-term, long-term, and momentum scores derived from hundreds of signals. In 2017, State Street partnered with Truvalue Labs to use its signal based on the Sustainability Accounting Standards Board’s materiality framework, which identifies sustainability issues at the industry level. This past October, research giant FactSet bought Truvalue. 

The Blending Process

Berry says the firm “thought that these providers represented a diverse set of approaches that ended up being very complementary to each other.” He adds that State Street chose this strategy because he thinks the best ESG analysis comes from cherry-picking data from across multiple datasets, rather than relying on one or two providers.

An important part of the strategy was to bring together traditional data providers and specialized alternative data providers, so as to give a rounded approach. Some traditional providers look at companies’ disclosed data and score ESG ratings based on those self-reported metrics. “To complement that, we also need to get some third-party and external views into the mix as well,” Berry says.

Berry says the firm took into account several factors when considering its overall approach to ESG data.

“We wanted to partner with well-established names in the space, providing extensive experience with analyst-driven frameworks and approaches,” he says. Alongside those providers, he recognized that although historical and company-reported data is needed in the overall strategy, some clients viewed a potential limitation of analyst-driven approaches as too latent, in that some company scores are only updated every six to 12 months. To offset those datasets and fill in the gaps between reporting, State Street also partnered with some undisclosed natural language processing and AI providers to provide real-time analytics and alternative datasets.

The third part of this approach was to bring in specialist providers that work on environmental metrics. Berry says he is continuing to see asset managers shift away from traditional scoring to a focus on metrics, particularly for the “E” of ESG, which are developed by the asset managers themselves, as they want to do their own analysis of companies, rather than rely on another’s conclusions.

“As we continue to move forward, we’re going to see an increased application of new technologies and approaches that are going to be reliant less on a company’s issuing of specific disclosure and more on alternative means of gathering data,” he says.