The selection of securities remains an engine that delivers performance over the long term. In this respect, an approach based on SRI can bring some significant value added particularly when the market does not have a clear trend. Experience has indeed shown that extra financial criteria or ESG (environmental, social, governance) participate in the selection of quality companies. The latter display more resiliency in unstable economic and market environments. They provide better visibility on their future cash flows and have generally less volatile results than other companies that are not as well graded. This is all made possible by a good quality management and a perennial economic model..
The SRI approach which consists in performing an in-depth analysis of extra financial criteria brings more complete information on the issues which will have an impact on the share price of a company. It completes financial analysis and sharpens security selection.
Our ESG analysis proposes extra financial criteria in terms of share price performance and volatility. For example, a firm’s financial communication (governance criteria) can have a significant impact on its share price if it gives several profit warnings. This can result from market conditions but this also often due to a poor communication and lack of rigor
Within the range of values followed by Sycomore AM, we have analyzed the share price performance of the best graded companies (37 values) and the least well graded (47 values) on a scale of 1 to 5 based on financial communication. The performance gap is significant namely during periods of stress on the markets (YTD) and over a long period (5 years) as illustrated by the following charts.
SHARE PRICE PERFORMANCE AS AT 30/09/11 (YTD)
SHARE PRICE PERFORMANCE AS AT 30/09/11 (5Y)
Over a longer term, factors such as good human resource management fall in absenteeism, worker training and career management impact company performance. These criteria are often leading indicators of a social climate and corporate culture that are favorable to productivity and competitiveness.
Still in corporate competitiveness logic, the ESG analysis enables the valuation of elements such as intangible capital relating to corporate culture, innovative ability, “pricing power” or even brand image.
The value added stemming from such an approach is mainly about mastering the criteria analyzed. This is why Sycomore has chosen to develop a propriety model and carry out its ESG analysis internally on the basis of raw data coming from company reports and through more than 150 interviews done each year with the companies and dealing with sustainable development questions. There is a double interest in this. The first one is to enable us to justify our analysis and cover a wider range of companies most notably on small and mid-caps.
At Sycomore AM, 79 SRI criteria now play a central role in fundamental company analysis. This evaluation is now integrated within all funds through a specific ESG risk premium which impacts the share price target of each company. As an extension of this, Sycomore AM launched in January 2011 the Sycomore Responsible Selection Fund. Beyond, the integration of this ESG risk premium, this stock picking fund has a selection process based on extra financial material criteria.
