The coronavirus roiled dealing rooms when it began spreading worldwide, but its effect on the burgeoning sustainable investment trend could be even more dramatic, UBS' Michael Baldinger writes for finews.asia.

In little more than a month, the world has been transformed by one of the most extreme crises in a generation; and maybe several generations. The speed and severity of the proliferation of the COVID-19 pandemic, the political response, and the ensuing economic fallout is unprecedented. Incredibly, global financial markets have seen both their best and worst trading periods in a decade in the same compressed timeframe.

The benchmark S&P 500 U.S. stock market index plummeted 34 percent over a month – the fastest bear-market fall in Wall Street history – only to recover by 20 percent in the following three weeks. Clearly the COVID-19 pandemic marks a pivotal point, for countries, businesses, families, and financial markets.

Short-Term Currents vs ESG

But does it also mark a pivotal point for sustainable investing? SI aims to understand and counter many other great societal challenges such as climate change, biodiversity damage, human and labor rights abuses, social inequalities, and good corporate governance?

Will we now recognize that social challenges demand massive public and private capital solutions, and, as a result, sustainable investing becomes an essential part of any investor's toolkit? Or, in the face of a global pandemic – which will almost certainly lead to a major global recession – are environmental, social, and governance criteria an unnecessary distraction? Will it lose out to more powerful currents of short-term business survival and re-establishing status quo growth?

Corona's Facets

If we look at companies through the lens of ESG investment risk and return characteristics, we soon see that sustainable investing touches all aspects of the pandemic:

1. Environmental

Evidence suggests that environmental threats lie at the heart of this terrible pandemic. Biodiversity loss and the degradation of natural habitats is contributing to the rise of zoonotic diseases, such as COVID-19, which jump from animals to humans. The potential for onward transmission once such a disease has taken hold is devastating given the ease of travel and the globalized world we live in.

But when it comes to our response to the pandemic, news for the environment may be more positive as businesses adapt. The rise of home-working and video-tech, for example: with a click, it's done away with the daily commute and relentless business travel for millions, drastically cutting carbon dioxide or CO2 emissions almost overnight.

In a matter of weeks, we've also seen the environmental benefits of pausing some of the world's major polluters. It gives us a glimpse of what we could achieve if we really apply ourselves to retiring fossil fuel assets and in their place, pursuing already exciting clean energy technologies. ESG research is already helping us to understand these trends in terms of investment in the best-positioned companies.

I'd like to hope that once this crisis abates, we won't automatically go back to our bad old ways. In 2018, a study at Zurich University of Applied Sciences looked at what happened when people were given free e-bike access, and couldn't drive. The outcome was interesting: once they did get their cars back, they actually drove a lot less. According to the researchers, the direct health and fitness benefits of the e-bikes proved to be a really powerful incentive for people to embrace an alternative way of getting around.

Post-pandemic, could we see a similar effect, but on a much larger scale, as people experience the benefits of cleaner air? I've already heard first-hand from a couple of friends in London, both asthmatic, who've told me they've not needed to use inhalers once since the lockdown. These are direct benefits impacting people's lives.

What the coronavirus has highlighted is the urgent need for political, social and business unity if we're going to solve an existential challenge. It shows that if the imperative is there then we can tackle the climate crisis, and turn it into a positive growth paradigm.

2. Social

The vital input of human capital in some of our most critical corporate sectors, like health, food supply and retail, has become crystal clear, even if they have thus far received less attention than other sustainability issues. Investment into health and safety will likely become a priority.

The same is true for the importance of good supply chain management. The pandemic is laying bare the fragility of some global trade linkages and relationships. These issues have been on the radar of sustainable investors for decades: I believe they will grow in importance after the crisis.

3. Governance

The questions are numerous. How resilient are companies to social and economic stress? How effective are their emergency and business continuity plans when problems strike? How rigorous are their processes, and how motivated are their employees to support the company through difficult times? Is the company nimble enough to protect existing markets and pivot to new priorities and opportunities? Is the company brand strong, and can it remain so in a crisis?

These are questions that sustainable investors are adept at asking, alongside core financial assessment. This highlights the importance of one of our long-held beliefs: ESG engagement and proxy voting have to be embedded in the ESG integration process in order to assess companies' resilience and long term performance. This focus on good stewardship is absolutely crucial if we're to safeguard our clients' best interests.

ESG Vs Traditional Investing

This snapshot shows the relevance of ESG factors to the COVID-19 crisis. I think it's one of the clearest demonstrations there is of the importance of integrating sustainability factors within the investment process.

And, based on initial indicators over the past few weeks, the companies held by sustainable investors seem to be performing better in the face of the pandemic. We've seen ESG indices, such as the MSCI SRI global and ACWI indices, outperform their traditional indices by 10 percent over the past three to five years. 

Many companies view the crisis as an opportunity to demonstrate their positive role in society. Banks are providing a funding mechanism for small businesses; industrial and consumer companies are shifting production to medical equipment to address the crisis. There is also ample evidence that better-managed companies tend to score well across ESG criteria as well as outperform the market over the longer-term.

Change Looms

Why? Well the sustainable investment process minimizes downside risk by avoiding those companies which exhibit riskier behaviors. It also identifies companies that can take advantage of long-term sustainability trends (many of which are apparent in the COVID-19 crisis).

The current situation is going to bring about a lot of change. Doubtless, it will demand alterations in the way we approach the integration of ESG data into our sustainability strategies. The recent focus on environmental factors may, in the short-term at least, need to give way to a greater emphasis on social factors. Maybe we will see a more equal weighting between the E, S, and G. Investing is, after all, a dynamic discipline.

Ignore at Investors' Peril

But importantly, far from being a distraction, I'm sure that in the aftermath of the COVID-19 crisis the sustainable investment trend will accelerate even more. We've already seen a remarkable transformation in the way the world's largest asset owners are allocating capital and their focus on sustainability issues in the last 18 to 36 months. The markets will recognize ESG as a critical element of investment research which it can't afford to ignore.

Investors will likely have even less tolerance for bad corporate citizens – funding their businesses will become expensive and capital will prove to be scarce. I strongly believe that the free capital markets are the most powerful transmission mechanism for promoting corporate sustainability globally and in solving our problems of today for a better future.