ESG Integration, Investment-Led, Expert-Driven

Introduction: provide a short overview of the practice, process or product that is being proposed for the award

In 2016, J.P Morgan Asset Management set out to formalise its ESG incorporation process across its actively managed assets under management (AUM). Five years later, it has integrated 97% of AUM – US$2.4trn – across over 450 strategies and 80 countries. It attributes its success to the integrity of its robust and transparent process, which is set out in detail here.

The process uses a consistent yet flexible framework to incorporate material, relevant ESG factors into each investment process in a manner consistent with the underlying investment style. The firm’s Sustainable Investment Leadership Team (SILT) – a cross-regional, cross-functional group of senior executives – in partnership with its dedicated Sustainable Investing team, use the same 10-point framework and assessment process to evaluate integration across all of its active investment strategies. The ESG incorporation process also benefits from scale, especially when it comes to the sharing of knowledge and best practices. The latest insights of the firm’s 1,000-plus investment professionals, as well as historical data, are available in a centralised technology platform, Spectrum, and can be accessed by all of its investment teams. The breadth of information also helps J.P. Morgan Asset Management assess its processes, plan enhancements and launch new dedicated sustainable products.

Process, practice or tool: Provide a description of the innovative approach to ESG incorporation, its coverage within your firm, why you decided to undertake this approach and the value it provided preferably using a practical example of how you have applied your approach to an investment (security/issuer/sector/asset class/portfolio)

• J.P. Morgan Asset Management has developed proprietary ESG incorporation criteria based on a structured, consistent and flexible framework. Its robust governance ensures that all strategies have met the same threshold for ESG incorporation and the firm continues to monitor ESG considerations in a meaningful and comparable way, while also being true to the nature of the asset class and investment process.

The greatest value from the approach comes from the integrity of its process and the scale of ESG incorporation the firm has achieved. Consistency comes from its independent review process, led by its SILT ESG Data & Research Working Group, where all teams are assessed using the same proprietary 10-metric scoring system. Teams are required to illustrate exactly how the ESG factors are used to influence their investment decisions.

To receive ESG integrated status under its current methodology, the investment team must receive an aggregate score of at least 30 points and, for each metric, receive at least a 2 on a scale of 1 to 5. If the strategy does not meet this threshold, the Working Group will discuss any specific shortcomings and the improvements that need to be made before it can be re-evaluated. The 10-metric scoring system is also used to measure progress over time. The firm requires all ESG integrated teams to continue incorporating ESG factors in a meaningful and consistent way on a day-to-day basis.

The consistency of the process is complemented by the flexibility to incorporate ESG factors in a way that preserves the integrity of a specific investment process and alpha-generation engine. For example, the firm’s equities teams have developed a research process that includes:

• A 40-question ESG checklist, which has been answered for almost 2,500 stocks globally and which has produced a unique proprietary database of ESG factors across the investible universe;
• Quantitative-led ESG scores that leverage third-party ESG data, weighted according to the firm’s own views on materiality. The scores provide further breadth for stocks not currently covered by the 40-question checklist;
• A strategic classification framework for all stocks based on the analysts’ judgment of the quality of the business, where ESG is an explicit consideration; and
• Additional research into specific ESG topics identified as material to the investment process.

J.P. Morgan Asset Management’s Emerging Markets Asia Pacific (EMAP) Equity team has further enhanced the equity process. When taking ESG considerations into account, the team uses a 98-question checklist which reflects many of the characteristics commonly associated with emerging markets. The EMAP team has also built a proprietary materiality framework which is starting to be rolled out to other equity teams.

Materiality is also important in fixed income, where the team has developed its own proprietary materiality matrix that ranks each fixed income sub-sector on the materiality of each type of ESG factor.

The flexibility of the firm’s ESG incorporation process has therefore allowed its wide application, but the centralised aspects of the process ensure quality control and enable the firm to realise the tremendous value of scale. As part of the next phase of ESG integration, J.P. Morgan Asset Management is developing its proprietary scoring system, led by its Sustainable Investing team, with the help of the SILT ESG Data & Research Working Group (see below).

Outcomes, benefits, challenges and next steps: provide an example of the outcomes, outline the benefits and challenges associated with the introduction of this initiative and what you have learned from this approach that can be applied more broadly. How might you intend to develop the process or practice?

Three of the most significant outcomes and benefits from its ESG incorporation process are:

1. The scale and centralisation of information: J.P. Morgan Asset Management now has a large and rapidly growing dataset that can be used to assess and improve its ESG integration processes. For example, an analysis by its EMAP team found that companies that the team rated higher on sustainability have generated more alpha over most of the last decade: returns for stocks ranked in the first and second quintiles were 4% and 1.4%, respectively, while all other quintiles had negative excess returns, as low as -3% for the fifth quintile. The firm will be able to expand these kinds of analyses more broadly, over longer periods of time and for many uses, including thought leadership, investment stewardship and product development.

2. Sharing knowledge and best practices: The firm’s SILT Working Group meets formally once a month and is uniquely positioned to monitor best practices among teams, due to its central role in the ESG incorporation process. The team also helps share best practices through its lines of business, whether via structured information sharing and training sessions or ad hoc ‘lunch and learn’ events. Currently, the group is starting to bring fellow investors up to speed on the roll-out of the quantitative proprietary scoring tool it helped develop by explaining the underlying methodology and the ways it can be used in the investment process.

3. Foundation for launching dedicated sustainability products: The firm’s efforts to develop a structured process for ESG incorporation across asset classes and regions has created a robust framework for launching dedicated ESG and sustainability products. Under the EU’s new Sustainable Finance Disclosure Regulation classification, it now has 65 products with over US$10bn in assets that promote ESG and sustainability.

   One of the greater challenges the firm encountered was related to the complexity of incorporating ESG across regions. Navigating differing regulatory guidance is particularly challenging with respect to fiduciary duty. However, expert input from its global Sustainable Investment team, coupled with the depth and breadth of many other resources at J.P. Morgan Asset Management, helps ensure that its process remains compliant with relevant global standards and is continually monitored.

   Another challenge was undertaking full-scale internal education on ESG as the firm began its ESG integration journey. Here, its Sustainable Investment team and the SILT Working Group have been invaluable resources for educating all levels of the firm, as noted in the earlier discussion of knowledge sharing.

   In terms of next steps, J.P. Morgan Asset Management is well into the process of developing a proprietary ESG scoring system and its equities and fixed income teams have started to adopt its enhanced propriety quantitative ESG score. The enhancement to the existing quantitative score leverages the firm’s expertise in ESG and sustainable research to provide a wide range of rich data from third-party ESG ratings, proprietary information obtained from direct company engagement and bespoke alternative datasets using machine learning algorithms and natural language processing.

Important Disclaimers