In a November 2 Wall Street Journal article, reporter Carolyn Cui wrote that “math geeks and altruists are forging unlikely alliances in the quest for better investment returns.” “Quants and Do-Gooders Unite” provided recent examples of the integration of environmental, social and governance (ESG) data into mathematical modeling of possible portfolio performance.

ESG factors are conventionally understood as “qualitative” attributes of a given business, rather than as comparative data that could tell investors how that business’s stock may perform. For example, a traditional socially responsible investor (SRI) might seek to avoid holding any companies that produce military weapons. For that investor, the only numbers needed are binary; a company either passes their “no weapons” screen or not.

Over the past 20 years, SRI/ESG research firms have sought to enable more subtle and granular analysis of corporate ESG performance. MSCI ESG Research progenitors Innovest and KLD developed comprehensive frameworks to generate comparative data across a spectrum of ESG indicators, from carbon emissions to executive compensation practices. IVA, Global Socrates, and the KLD Indexes (now MSCI ESG Indices) support both qualitative and quantitative approaches to portfolio construction.

While Ms. Cui’s article highlights the novelty of “math geeks and altruists” working together, such détente isn’t without precedent. In 2005, KLD worked with Barclays Global Investors to create an exchange-traded fund based on what is now called the MSCI KLD 400 Social Index.

Since the 2009 acquisition of KLD by RiskMetrics – and the subsequent 2010 sale of RMG to MSCI – we KLD alums have fielded many questions about the future of our legacy businesses.

I’m happy to report that MSCI has made a concrete commitment to the ESG index business. Below is the text from this week’s announcement introducing MSCI ESG Indices. This also includes a table of the Indices’ new names.

If you’d like to learn more about the 20-year history of the KLD index business – the first of its kind in the world – take a look here:  http://www.kld.com/about/20years/

Also see these ESG Insight articles on this topic:

Dan DiBartolomeo and Lloyd Kurtz on the KLD400 Social Index: 20 Years of ‘SRI as a Free Good’

The Impact of ESG Integration: A Roundup of Research on Risk and Returns

Passive Strategies for ESG Investing: An Overview from Index Universe

Last week, the Harvard Business Review blog presented some Harvard faculty responses to the newly signed Dodd-Frank financial reform bill. The Business School Professors’ sentiments range from the “cautious optimism” of Robert Steven Kaplan to Robert C. Pozen’s assertion that the act “misses the main cause of the crisis,” which was Fannie Mae/Freddie Mac, in his opinion. And while David A. Moss believes that the bill takes important steps to rein in “too big to fail” banks, Clayton S. Rose says that “little has been done” to defuse the systemic risks of such institutions.

None of the Professors focus on what Joseph Fuller, co-founder of Monitor Group, has called “The Terminator” of modern financial markets: computer-based modeling and trading programs. In a 2009 piece in The American Scholar, Mr. Fuller argues that the work of “quants” worsened the financial crisis. He also describes regulatory steps that could help dampen the volatility produced by automated trading programs.

Neither the Dodd-Frank Act nor Harvard’s Professors assign high importance to quant-driven volatility, but Mr. Fuller’s argument suggests that they should. Automated models drive hair-trigger, lockstep responses to market signals. “The Terminator” has also discouraged the sort of qualitative historical analysis that many investors, including those who consider environmental, social and governance (ESG) factors, believe is the key to long-term value creation.

[Ed. Note – On June 21, Access to Medicine Index 2010, which ranks major global pharmaceutical companies on their efforts to increase global access to medicine, will be released to the public. Index 2010 is an initiative of the Access to Medicine Foundation, a Netherlands-based non-profit organization dedicated to improving access to medicines to societies in need. Click here to learn more about the Foundation. UPDATE: The Index 2010 report is available for download here.

The Access to Medicine Index is the brainchild of Wim Leereveld, a Dutch entrepreneur with extensive experience in the global healthcare sector. Supporters of the Access to Medicine Foundation include the Dutch and UK governments, among other charitable organizations and NGOs.

As with the first Access to Medicine Index in 2008, Index 2010 was researched by a dedicated RiskMetrics ESG team, led by Senior Analyst Afshin Mehrpouya. Click here to learn more about Index 2010’s methodology, including the companies, countries, and diseases that Index 2010 considers.

Mr. Leereveld graciously agreed to share some of his thoughts on Access to Medicine with ESG Insight readers. We appreciate his participation, and the efforts of the entire Access to Medicine team.]

As part of their coverage of the ongoing Gulf crisis, Forbes and BusinessWeek have each reported on how socially responsible investors (SRI) view BP. Both articles cite sources who mention BP’s positive steps in alternative energy development, among other environmental, social and governance (ESG) initiatives.

The RiskMetrics ESG Analytics team (now part of MSCI) maintains a detailed historical record of the ESG practices of thousands of companies worldwide, including BP. While some investors may have been “vexed” by BP's recent struggles, according to BusinessWeek, our research and evaluations have tracked the firm’s labor safety and environmental issues for years. As described by a previous ESG Insight article, SRI/ESG investors may actually have been more prepared than most for the risks of BP's ESG practices.

In response to client inquiries, we’ve compiled here some of the most relevant RiskMetrics ESG indicators and evaluations regarding BP. Much of this information is proprietary, but we can share a snapshot of our work with ESG Insight readers. [Click here to learn how to gain full access to our data.]

The FTSE KLD 400 Social Index (KLD400) celebrates its 20th anniversary this month. The world’s first benchmark index constructed using environmental, social and governance (ESG) factors, the KLD400 sparked a new era of responsible investing, helping transform the field from a small niche into today’s $6.7 trillion global market. [Source: Eurosif 2007] Since 1990, the KLD400 has outperformed the S&P 500, proving that a portfolio constructed using ESG criteria can, over the long term, deliver competitive risk-adjusted returns.

Dan DiBartolomeo and Lloyd Kurtz, who was one of the original KLD employees apart from the firm's founders, have studied the risk and return characteristics of socially screened portfolios over the past two decades.

Dan and Lloyd spoke to us about the KLD400’s contribution to mainstream investing, how SRI has evolved over the past 20 years, and some of the challenges that remain. [Ed. Note – Biographical info for Dan and Lloyd can be found at the end of this interview.]

On March 24, Responsible Investor reported on a new study of how ESG integration affects portfolio risk and returns. Risklab, a unit of Allianz Global Investors, found “a high probability that companies that don’t manage ESG issues will be more volatile,” in the words of RI’s Hugh Wheelan. The Risklab study, “ESG Risk Factors in a Portfolio Context,” explains the motivation behind its methodology:

“Strategic Asset Allocation (SAA) has been described as the most important factor driving long-term portfolio returns.  Estimates conclude it accounts for up to 90% of portfolio risks, outweighing market timing and stock selection in importance. Yet…little has been researched on the link between ESG and the risk/return profile of an entire portfolio.”

As you may be aware, RiskMetrics Group has entered into a definitive merger agreement to be acquired by MSCI Inc. (Click here to see the joint press release.)

We are writing this message to affirm our continued commitment to the ESG business.

By joining forces with MSCI, we will have more opportunities to expand the reach of ESG investing. MSCI’s market-leading index business, plus Barra’s factor and risk models, will provide platforms for us to strengthen the integration of ESG factors into investment risk management. We are excited about what this merger will mean for the ESG Analytics team, and for all of our clients.

Earlier this month, Green Century Capital Management and As You Sow filed shareholder resolutions calling for utilities to disclose how they will address the risks associated with coal ash. Boston-based Green Century and As You Sow, an advocacy group, believe that the storage and reuse of coal ash could have broad consequences for both the environment and shareholders.

Coal ash made headlines in 2008, when a storage pond operated by the Tennessee Valley Authority (TVA) spilled 5.4 million cubic yards of the ash into nearby waterways. The EPA has indicated that the spill won’t be contained until 2013, and TVA estimated the resulting costs at $231 million through 2009.

In a press release announcing the shareholder resolution, Emily Stone of Green Century (a KLD Index client) said that the TVA spill shows that existing regulations don’t adequately mitigate ash’s environmental and financial risks. 

On March 9, The Access to Medicine Foundation released the methodology for this year’s Access to Medicine Index, which will be released this summer. First published in 2008, the Index ranks major pharmaceutical providers on their efforts to help poorer nations fight their deadliest diseases.

Innovest, which is now part of RiskMetrics Group, led the development of the 2008 Index. RiskMetrics Group’s ESG Analytics team has again worked with Access to Medicine to revise and update its Index methodology to incorporate feedback from stakeholders, and also to keep up with changes in the global health situation.