• Moat Investing

    Sustainable Moat Investing: Assessing ESG Risk

    Brandon Rakszawski, Senior ETF Product Manager

    Morningstar® US Sustainability Moat Focus IndexSM combines Morningstar’s proven equity research process of identifying companies with long-lasting competitive advantages and attractive valuations with Sustainalytics’ industry-leading ESG research. The Index focuses on three proprietary ESG criteria when selecting companies for inclusion: ESG Risk, Controversy, and Carbon Risk. Here we will explore the Sustainalytics ESG Risk Rating.

    Morningstar US Sustainability Moat Focus Index Methodology

    ESG Risk 1
    Source: VanEck

    • ESG RISK: Companies must have an ESG Risk Rating categorized as medium, low or negligible
    • Controversity: A company´s controversy score must be 4 (out of 5) or lower throughout the trailing three years
    • Carbon Risk: A company´s carbon risk score cannot be high or severe
    • Product Involvement: A company must not be involved in tobacco, controversial weapons, civilian firearms, thermal coal
    • Wide Moats: Only those companies that Morningstar equity research analyst have assigned a wide economic moat rating are eligible for inclusion
    • Attractive Valuations: Select the most attractively priced wide moat companies based on a companies current price relative to its Morningstar analyst-assigned fai value estimate

    Sustainalytics ESG Risk Rating

    The Sustainalytics ESG Risk Rating is Morningstar’s broad-based, flagship ESG risk assessment. It is forward-looking in nature and identifies a company’s financial exposure to material ESG risks that are specific to its industry and that company itself. Sustainalytics then determines how successfully a company has managed those ESG risks. The remaining unmanaged ESG risks form the basis for its ESG Risk Rating, which spans from Negligible to Severe.

    ESG Risk Rating Building Blocks

    Three considerations form the foundation of Sustainalytics’ ESG Risk Rating: Corporate Governance, Material ESG Issues and Idiosyncratic Issues.

    Corporate Governance impacts all companies and is a foundational element of the Sustainalytics framework. It reflects their conviction that poor Corporate Governance poses material risks for companies that can have negative financial consequences.

    Material ESG Issues are focused on a topic, or set of related topics, that require a common set of management initiatives or a similar type of oversight. Human Capital issues, for example, revolve around the management of human resources. Business Ethics focuses on the management of general professional ethics from taxation and accounting to anti-competitive practices. Another example of a Material ESG Issue is Emissions, Effluents and Waste which focuses on the management of a company’s impact to air, water and land from their own operations. There are approximately 20 Material ESG Issues identified by Sustainalytics and each is considered, if applicable to a company’s business model, in their ESG Risk Rating.

    Idiosyncratic Issues are those additional risks that are considered unpredictable or unexpected. Examples of Idiosyncratic Issues are accounting scandals, bribery scandals, or other “black swan” events.

    Identify Manageable vs. Unmanageable Risks to Measure Unmanaged Risk

    The ESG Risk Rating is predicated on identifying the level of a company’s unmanaged ESG risk. To that end, Sustainalytics identifies the manageable and unmanageable risks applicable to each company and their respective industry. Of a company’s total ESG risk, some portion simply cannot be addressed by management practices. For example, an oil and gas exploration and production company cannot eliminate the carbon emissions risks associated with its business practices. Those companies can manage other ESG risks such as employee safety and human rights issues, among others.

    Once manageable ESG risks are identified, Sustainalytics assesses the extent to which those risks have been managed. The “management gap,” reflecting manageable risks that have not been managed, are combined with unmanageable ESG risks to form a company’s total unmanaged risks which are represented by its ESG Risk Rating.

    Measuring Unmanaged ESG Risk

    Source: VanEck

    • Starting point is a company´s exposure to material ESG issues
    • Some companies have unmanageable risks, e.g. an oil company will always face risks related to carbon until it changess its business model
    • Of the manageable risk, a portion is managed through a company´s policies, programs, management systems, etc.; the remainder is considered unmanaged (Management Gap)
    • The ESG Risk Rating evaluates unmanaged ESG risk

    Absolute Rating System

    The ESG Risk Rating is absolute, meaning that a company operating in the energy sector can be compared to a company in the consumer discretionary sector. ESG Risk Ratings place companies in five risk categories ranging from Negligible to Severe. The Morningstar US Sustainability Moat Focus Index will include only those companies with ESG Risk Ratings of Negligible, Low or Medium.

    ESG Risk Rating Categories

    Source: VanEck

    A Sustainable Approach to Moat Investing

    Many of the most popular sustainable investment strategies seek to offer broad exposure to market indexes while applying some level of exclusionary or inclusionary ESG screens. This may reduce ESG risk in a portfolio, but does not address other performance drivers. The Morningstar US Sustainability Moat Focus Index’s unique combination of forward-looking equity research and ESG screening offers investors a U.S. equity strategy that seeks to provide investors with attractive risk-adjusted returns while mitigating ESG risks.

    VanEck Morningstar US Sustainable Wide Moat UCITS ETF seeks to replicate as closely as possible, before fees and expenses the price and yield performance of the Morningstar US Sustainability Moat Focus Index.

  • Important Disclosure

    For informational and advertising purposes only.

    This information originates from VanEck (Europe) GmbH which has been appointed as distributor of VanEck products in Europe by the Management Company VanEck Asset Management B.V., incorporated under Dutch law and registered with the Dutch Authority for the Financial Markets (AFM). VanEck (Europe) GmbH with registered address at Kreuznacher Str. 30, 60486 Frankfurt, Germany, is a financial services provider regulated by the Federal Financial Supervisory Authority in Germany (BaFin). The information is intended only to provide general and preliminary information to investors and shall not be construed as investment, legal or tax advice. VanEck (Europe) GmbH and its associated and affiliated companies (together “VanEck”) assume no liability with regards to any investment, divestment or retention decision taken by the investor on the basis of this information. The views and opinions expressed are those of the author(s) but not necessarily those of VanEck. Opinions are current as of the publication date and are subject to change with market conditions. Certain statements contained herein may constitute projections, forecasts and other forward looking statements, which do not reflect actual results. Information provided by third party sources are believed to be reliable and have not been independently verified for accuracy or completeness and cannot be guaranteed. All indices mentioned are measures of common market sectors and performance. It is not possible to invest directly in an index.

    VanEck Morningstar US Wide Moat UCITS ETF (the “Fund”) is a sub-fund of VanEck® UCITS ETFs plc., organised under the laws of Ireland, managed by VanEck Investments Ltd. VanEck Investments Ltd delegated the investment management of the Fund to Van Eck Associates Corporation, an investment manager regulated by the U.S. Securities and Exchange commission (SEC). Any investment decision must be made on the basis of the prospectus and the key investor information document (“KIID”), which is available at www.vaneck.com. These are available in English and certain other languages at www.vaneck.com or can be requested free of charge from VanEck Investments Ltd or from the relevant local information agent details of whom to be found on www.vaneck.com. The Fund is registered with the Central Bank of Ireland and tracks an equity index.

    Morningstar® Wide Moat Focus IndexTM is a trade mark of Morningstar inc. and has been licensed for use for certain purposes by VanEck. VanEck Morningstar US Wide Moat UCITS ETF is not sponsored, endorsed, sold or promoted by Morningstar and Morningstar makes no representation regarding the advisability of investing in VanEck Morningstar US Wide Moat UCITS ETF.

    The S&P 500 Index (“Index”) is a product of S&P Dow Jones Indices LLC and/or its affiliates and has been licensed for use by Van Eck Associates Corporation. Copyright © 2020 S&P Dow Jones Indices LLC, a division of S&P Global, Inc., and/or its affiliates. All rights reserved. Redistribution or reproduction in whole or in part are prohibited without written permission of S&P Dow Jones Indices LLC. For more information on any of S&P Dow Jones Indices LLC’s indices please visit www.spdji.com. S&P® is a registered trademark of S&P Global and Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC. Neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors make any representation or warranty, express or implied, as to the ability of any index to accurately represent the asset class or market sector that it purports to represent and neither S&P Dow Jones Indices LLC, Dow Jones Trademark Holdings LLC, their affiliates nor their third party licensors shall have any liability for any errors, omissions, or interruptions of any index or the data included therein.

    S&P 500® Index: consists of 500 widely held common stocks covering the leading industries of the U.S. economy. Morningstar® Wide Moat Focus IndexTM consists of at least 40 U.S. companies identified as having sustainable, competitive advantages, and whose stocks are the most attractively priced, according to Morningstar.

    All performance information is historical and is no guarantee of future results. Investing is subject to risk, including the possible loss of principal. You must read the Prospectus and KIID before investing.

    No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission of VanEck.

    © VanEck (Europe) GmbH


  • Authored by

    Brandon Rakszawski
    Senior ETF Product Manager

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