As more people become concerned about our impact on the planet, the asset management industry has tried to keep pace. For many investors, buying eco-friendly, socially conscious, and sustainable assets (ESG investing) is a vital part of their financial strategy. The trick for investors is to find ways to incorporate sustainable assets into their portfolio without adversely affecting their returns. Further, each company that provides ESG investments has their own approach to selecting stocks for inclusion in their portfolio, and therefore it is important for investors to research an asset manager’s approach to ESG before investing in their mutual funds, ETFs, or other ESG solutions.
To help investors understand the ESG strategy of one firm, this blog post will summarize the approach taken by Dimensional Fund Advisors (DFA), one of the primary asset management companies that we partner with for portfolio management products and research. Their approach to sustainable investing, detailed below, focuses on allocating assets to companies that reduce exposure to greenhouse gas emissions.
- In choosing their investments, DFA focuses on creating cost-effective portfolios that target the risk factors associated with higher expected returns. For stock investments, portfolios tilt toward smaller market capitalization stocks with cheap prices and high profitability, while for fixed income assets they tilt towards high credit quality bonds that are on the steepest part of the yield curve.
- DFA uses research by professionals in the climate space to make available to clients a broad range of sustainable investments. Their strategy entails prioritizing companies that focus on climate change, particularly those that do a good job in reducing greenhouse gas emissions while considering other climate issues such as toxic waste production and water management.
- There are two types of greenhouse gas emissions that DFA focuses on: direct and indirect emissions. Direct emissions are directly related to the operations of the company and indirect emissions result from the purchase of electricity, or the transportation solutions a company uses to move goods to market.
- DFA uses a scoring system to evaluate companies. They start by filtering companies by sector before focusing on each individual sector. Companies that have shown no interest in sustainability factors are completely avoided.
- The companies that meet the ESG criteria are rated amongst their peers and ranked from the most environmentally conscious to the least. This ranking is done across both the equity market and the fixed income market. The companies are then analyzed for their dimensions of higher expected return before DFA makes an allocation of client funds.
- There are currently five sustainable funds provided by Dimensional: US Sustainability Core 1 Portfolio, International Sustainability Core 1 Portfolio, Emerging Markets Sustainability Core 1 Portfolio, US Sustainability Targeted Value Portfolio, and Global Sustainability Fixed Income.
The DFA sustainability investment approach is one that has provided investors with strong returns and environmentally conscious holdings for over a decade. At Stratus, we believe the combination of a solid financial strategy with well thought out ESG filters provides the best opportunity for investors to make their dollars work for them while also working for the good of society.
 The yield curve shows the possible interest rates in the market for bond investment of different maturities. For bond investments, there is an inverse relationship between price and yield – if the yield goes up, the price goes down and vice versa. Therefore, by investing on the steepest part of the yield curve, DFA is trying to capture the largest drop in interest rates as a bond’s time to maturity decreases, which will provide the largest price appreciation.