Understanding Values-Based Investing with Cboe’s New S&P 500 ESG Index Options

Matt Moran, Director, Head of Index Insights

Today, Cboe Global Markets launched cash-settled options on the S&P 500 ESG Index (ticker: SPESG). The S&P 500 ESG Index is designed to align investment objectives with environmental, social and governance (ESG) values, and the new index options are a potential tool for investors to implement hedging, risk management, income enhancement and asset allocation strategies. Let’s take a look at some recent findings and trends with ESG investing.

Growth in ESG Investment Mandates
According to a 2020 study issued by Deloitte, the total amount of ESG-mandated professionally managed assets in the U.S. grew from $3.7 trillion in 2012 to $12 trillion in 2018, and the study projected that the amount could grow to around $34.5 trillion in 2025. Add to that the EU’s mandate that financial market participants integrate ESG risks and opportunities in their processes as part of their duty to act in the best interest of clients, and it is clear that ESG principles have a huge impact on worldwide investing.

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New S&P 500 ESG Index Options
Cboe™ S&P 500 ESG Index options are designed to give investors access to long or short positions and provide broad exposure to ESG equities without the burden of owning a portfolio of individual stocks.

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S&P 500 ESG Index — Methodology and Largest Constituents
The S&P 500 ESG Index is a broad-based, market-capitalization weighted index, constructed to be part of the core of an investor’s portfolio, unlike many other ESG indices that have been thematic or narrow in their focus. By targeting 75% of the S&P 500’s market capitalization, industry by industry, the S&P 500 ESG Index offers industry diversification and a return profile in line with the U.S. large-cap market. Yet, the composition of the new index is meaningfully different from that of the S&P 500 and more compatible with the values of ESG investors. First, exclusions are made related to tobacco and controversial weapons, for example. Furthermore, companies with low ESG scores relative to their industry peers are also excluded.

As shown in the table below, on August 31, the S&P 500 ESG Index had 310 constituent stocks, and the 10 largest stocks in the index accounted for 37.1% of its capitalization.

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Sector Weights for Key Stock Indices
The weightings of various sectors can have a substantial impact on the performance of stock indices in years such as 2020 when there has been quite a bit of divergence in the performance of various sectors. For example, let’s take a look at the Information Technology sector, where on July 31, its sector weightings were 28.8% for the S&P 500 ESG Index, 27.5% for the S&P 500 Index and 18.4% for the MSCI Emerging Markets Index. Technology stocks have soared amid the coronavirus pandemic as companies and individuals rely more on virtual technology as they stay at home.

While the sector weights generally were pretty close for the S&P 500 ESG and S&P 500 indices, the chart below shows some substantial differences between the S&P 500 ESG Index (in the outer ring) and the MSCI Emerging Markets Index (in the inner ring). Financial professionals are taking note of the dominance of technology stocks in ESG investments, with some acknowledging the social and sustainable practices in place at many technology companies, and others pointing out data privacy issues and labor practices.

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S&P 500 ESG Index — Performance and Volatility
When I first began to explore ESG funds and benchmark indices, I wondered if ESG investments (which had a limited opportunity set in terms of available investments) might underperform investments without ESG mandates. The bar charts below show that since April 30, 2010 (when the S&P 500 ESG data history began), the S&P 500 ESG Index had both higher returns and lower volatility than the other five stock and commodity indices in the chart. The strong relative performance of the S&P 500 ESG Index was aided by the fact that 30.5% of the index was recently allocated to the Information Technology sector, which had annualized returns of more than 17% since April 2010 (the highest returns among all the 11 sectors in the pie chart above). In addition, ESG proponents assert that companies that have strong policies that reflect environmental, social and governance values have potential to perform relatively well.

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Key Takeaways

  • The number of ESG-mandated professionally managed assets in the U.S. continues to grow, and the EU has mandated financial market participants to integrate ESG concerns in their processes. Cboe S&P 500 ESG Index Options are an efficient way to integrate ESG initiatives.
  • Cboe S&P 500 ESG Index options are designed to give investors access to long or short positions and provide broad exposure to ESG equities without the burden of owning a portfolio of individual stocks.
  • The S&P 500 ESG Index offers industry diversification and a return profile in line with the U.S. large-cap market, but is still more compatible with the values of ESG investors.
  • Since April 30, 2010 (when the S&P 500 ESG data history began), the S&P 500 ESG Index had higher returns and lower volatility than five other stock and commodity indices.

Learn more about options on the S&P 500 ESG Index here or watch this video.

The information in this article is provided for general education and information purposes only. No statement(s) within this article should be construed as a recommendation to buy or sell a security or futures contract, or to provide investment advice. Supporting documentation for any claims, comparisons, statistics or other technical data in this article is available by contacting Cboe Global Markets at www.cboe.com/Contact.

Past Performance is not indicative of future results.
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