News | p.3

INVESTORS HAVE A KEY ROLE TO PLAY IN THE COVID-19 CRISIS

N° 22 - may 2020

THE SRI CHRONICLESS

From an academic point of view | p.4 et 5

EXPORTING POLLUTION: WHERE DO MULTINATIONAL FIRMS EMIT CO2?

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IS THIS A BLACK SWAN OR THE REVENGE OF THE BAT AND PANGOLIN?

2020 will go down as the year of the Covid-19 global pandemic. Fans of Nassim Taleb will be reminded of his 2007 best-selling book The Black Swan: The Impact of the Highly Improbable. Before Australia was discovered, everybody thought all swans were white so a black one was viewed as a freak. But is Covid-19 really a black swan event? Does today’s situation match Taleb’s defining characteristics, i.e. rarity, extreme impact, and retrospective predictability. To some degree, yes, but not totally if we refer to WHO papers or articles in the scientific review Nature.

We have to look at the origins of the crisis, namely contacts between wild animals and humans. Virologists all agree that 70-75% of emerging human diseases since the beginning of the 20th century have been zoonotic, i.e. transferred through animal contact. The traditional territories of wild animals like bats and pangolins are under global threat. Pangolins, in fact, have the dubious honour of being the most hunted mammals in the world. So are we seeing the symbolic revenge of the bat and pangolin?

The crisis has created a host of uncertainties but has also served as a reminded that we must build a more resilient world, one that takes sustainable development into account. We are now in an emergency and confronted with huge social challenges: private and public healthcare schemes, the probable destruction of 195 million jobs globally in this second quarter, and the absolute necessity of a root-and-branch reform of supply chains in areas like medicine and food. The situation requires us to put environmental priorities like global warming, water, the circular economy and BIODIVERSITY at the heart of any stimulus plans.

“Wherein lies the danger, grows also the saving power”, wrote the German philosopher and poet Friedrich Hölderlin. This is exactly the situation we are in.

Edmond de Rothschild Asset Management is a co-sponsor of the Sustainable Finance and Responsible Investment Chair which is co-managed by Ecole Polytechnique and the Toulouse School of Economics, and is a co-sponsor of the FIR - PRI european research awards.

JEAN-PHILIPPE DESMARTINHead of the Responsible Investment Team

EDITORIAL

Sustainable Finance and Responsible Investment Chair

3ASSET MANAGEMENT - THE SRI CHRONICLES

INVESTORS HAVE A KEY ROLE TO PLAY IN THE COVID-19 CRISIS

Unlike the 2007-8 meltdown, today’s crisis was not caused by problems in the financial sector. In fact, investors can play a major role today in dealing with the crisis. They can continue to assist companies which are facing temporary difficul-ties, support independent workers and help firms which are looking to borrow.

Investors can also steer companies into assuming their responsibilities. A number of initiatives have been taken. Several organisations, and especially supranational banks, have already issued Covid-19 bonds. These are designed to help ailing companies or the most vulnerable people. A shareholders coa-lition led by the Interfaith Center for Corporate Re-sponsibility (ICCR) in the US has released an “Inves-tor statement on coronavirus response”. One of its recommendations is for companies to protect staff and maintain relations with suppliers. Elsewhere, the UN’s Principles for Responsible Investment (PRI) ini-tiative has produced a guide which details six stages for investors when dealing with Covid-19 challenges. These include engagement actions and involvement in any virtual AGMs.

For the moment, investors are analysing the ways large corporations are behaving. Are they physically and financially protecting their employees, including

those on temporary or partial contracts, and more

generally their suppliers and customers? A good

example is L’Oréal which has frozen all amounts due

from small companies. Ahead of the AGM season, a

big question for investors is whether capital is being

responsibly allocated. There is also the question of

dividend payouts and share buybacks this year. All

companies are concerned and not just those bene-

fiting from government aid through part-time work

and tax deferrals, etc. Many companies have already

agreed to share the burden by reducing dividends

and cutting executive pay.

SUPPLY CHAINS ARE A PIVOTAL CONCERN

Looking further out, supply chains will probably

come under scrutiny, starting with risks of drug

shortages or the research efforts of pharma com-

panies, particularly in the vaccines field. Our propri-

etary ESG1 methodology already takes these issues

into account. And the Covid-19 crisis reinforces our

decision to go for a Best-in-Universe2 approach,

overweighting companies which contribute to sus-

tainable development solutions, starting with the

healthcare sector.

Reshoring will be a major issue. This concerns both

bringing home farming to ensure food supplies and

industry to help maintain economic and sanitary

continuity.

Environmental issues have for the moment taken second place in media coverage. Even so, subjects like biodiversity erosion, intensive farming and consumption of some animal types should rapidly return centre stage as stimulus plans are unfold-ed. Quite simply, the only way to avoid another pandemic and planetary catastrophe is to tackle global warming.

1. ESG criteria: environmental, social and governance.2. In Socially Responsible Investment (SRI), the Best-in-universe approach focuses on companies with the best extra-financial ratings, irrespective of their sector. Sector bias is acceptable as those which are the most virtuous will have the largest weightings.

NEWS

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FROM AN ACADEMIC POINT OF VIEW

EXPORTING POLLUTION: WHERE DO MULTINATIONAL FIRMS EMIT CO2?

Over the last few decades, the number of weather-related natural disasters has been steadily rising. As signs of climate change accu-mulate, countries around the globe are adopting strict regulations designed to curb greenhouse gas emissions from industrial produc-tion, generally considered to be the primary cause of global warm-ing. However, countries vary widely in how they design and enforce environmental laws. This paper1examines the polluting behavior of multinational companies in the 2010s with respect to the stringency of environmental policies in their home countries and abroad. Using novel microdata about international firms’ CO2 emissions across countries, the authors focus on the geographic allocation of pollu-tion. A cross-sectional analysis allows to explore further the differ-ences in multinational firms’ polluting behaviors among industries and governance structures.

DATA SCOPE AND SOURCES

The study is based on a novel panel dataset covering 1,970 large public firms headquartered in 48 countries and their CO2 emissions in 218 countries from 2008 to 2015. The authors are the first to use micro-level data to link the stringency in environmental policies of the countries to firm-level emissions. Emissions are represented by Scope 1 (direct emissions from operations) and Scope 2 (indirect emissions arising from the electricity consumption). Data stem from a variety of sources which are references in their domain, such as the Carbon Disclosure Project (CDP), the World Economic Forum (WEF) and the Thomson Reuters Asset4 database. This broad dataset allows the authors to build a multi-factor model and to carry out a cross-sectional analysis.

ENVIRONMENTAL POLICIES AND CARBON LEAKAGE

The study highlights that firms headquartered in countries with stricter environmental policies emit less CO2, both domestically and globally. This positive picture has to be tempered by evidence of carbon leak-age from countries with strict environmental policies. This means that stricter domestic environmental policies are associated with a greater share and greater amount of pollution abroad. While strict national environmental policies are effective in reducing the aggregate CO2 emissions to a certain extent, they also create negative externalities, incentivizing firms to export their polluting activities to other countries. Indeed, firms tend to relocate their production to countries with more lax environmental regulations to circumvent pollution controls in their home country. As an example, firms headquartered in countries with strict regulations such as Switzerland or Belgium have nearly 84% of their CO2 emissions on average in foreign countries. The figures

ITZHAK BEN-DAVID The Neil Klatskin Chair in Finance and Real Estate, the Ohio State University

YEEJIN JANGSenior Lecturer, University of New South Wales

STEFANIE KLEIMEIERAssociate Professor of Finance, Maastricht University

MICHAEL VIEHSDirector, Head of ESG Integration, Hermes, London

5ASSET MANAGEMENT - THE SRI CHRONICLES

for firms in China or Thailand are 26% and 37%, respectively, as those countries are associated with less stringent regulation and law enforcement. The study points to a general improvement in environ-mental regulation between 2008 and 2015 without hiding that most countries remain weakly regulated. Overall, global carbon emissions by firms neither increased or decreased substantially during the study period, but carbon leakage became more prevalent as the share of home emissions in global emission decreased substantially over time (from 72% in 2008 to 57% in 2015 for Scope 1 emissions).

DESTINATION COUNTRIES

Firms export pollution to foreign countries with weaker environmental policies and the stringency of such policies is an important determinant for de-cision making. Regarding more precisely the destination coun-tries to which firms export their pollution, the study documents that firms pollute the more in a foreign country the bigger the gap in the strictness in environ-mental policies between the home and the foreign country. The effects are sizeable: a one standard deviation increase (1.52) in the relative strictness of environmental policies at home is associated with up to an 84% increase in the respective foreign country. Put differently, countries with laxer of less stringent-ly enforced environmental policies may “attract” pollution from firms headquarted in countries with relatively stricter environmental policies.

MINIMIZING VERSUS AMPLIFYING FACTORS

Next, the study examines factors that might mini-mize or amplify the firms’ incentive to pollute abroad in response to strict environmental policies such as firm governance and industry characteristics.

As relates to governance, cross-section results suggest that strong firm-level governance can mitigate negative externalities associated with strict national regulations. Well-governed firms produce fewer emission domestically while keeping foreign emissions unchanged in absolute terms. However, this translates mechanically into higher foreign emission in relative terms for the same companies. On the opposite, poorly-governed firms increase foreign emission when home environmental policies

are strict. There may be multiple explanations such as a genuine interest of well-governed companies in scarifying short-term interests for long-term bene-fits for the firms and its stakeholders or the influence of institutional investors who care about corporate responsibility and push for lowering pollution.

The authors conduct further analysis on pollution-inten-sive industries including, for example, electricity and gas supply, coke and refined pe-troleum production but also air and water transport and several manufacturing industries. Firms in these industries do not reduce emission at home in response to strict home regulation and export emissions to foreign countries twice as much as the average firm in other industries. This is consistent with the idea that complying with strict environmental policies is costly for pollution intensive industry firms, causing them to perform their CO2 emitting activities abroad. These results are par-ticularly important because only 6% of all firms-years included in the sample are classified as pol-lution intensive, yet their global

emissions of Scope 1 CO2 are as large as the total emissions by the rest of the sample.

CONCLUSION

Carbon leakage is a wide-spread reality among multi-national firms who locate their CO2 emitting activities in countries with weaker environmental regulation. They emit CO2 to foreign countries as increases the regulatory gap between the home and the foreign country. Finally, the tendency to export pollutions abroad is more intense among firms with poor governance and those in pollu-tion-intensive industries. The CO2 emissions pat-terns in response to the stringency of countries’ environmental policies highlight the need for global coordination of regulations of CO2 emis-sions. Without collective action, multinational firms with production facilities around the globe may continue to benefit from regulatory arbitrage opportunities by exporting pollution. In addition, policymakers might have a greater impact on reducing global emissions if they target high-pol-luting industries.

1. Itzhak Ben-David, Yeejin Jang, Stefanie Kleimeier, Michael Viehs, Dice Center WP 2018-20, Fisher College of Business WP 2018-03-020, March 2020

http://www.ssrn.com/link/Fisher-College-of-Business.html

FIRMS HEAD- QUARTERED IN COUNTRIES WITH STRICT REGULATIONS SUCH AS SWITZERLAND OR BELGIUM HAVE NEARLY 84% OF THEIR CO2 EMISSIONS ON AVERAGE IN FOREIGN COUNTRIES

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COMPANY MEETINGS RECOMMENDED READING

ASMLASML was founded close to Eindhoven in the Nether-lands in 1984. The group is currently the largest supplier in the world of photolithography systems for the semi-conductor industry.

It plays a key part illus-trating Moore’s Law1. With an 80-85% share in its target markets, ASML was the first to successfully roll out the new extreme ultra-violet (EUV) photoli-thography generation.

The company is at the cutting edge of innovation as well as sustainable development.

It has adopted a long term approach with an organic growth model which relies on a top-quality ecosystem built in partnership with suppliers and customers like Intel and TSMC. A member of the Responsible Business Alliance since 2011, ASML seeks solid partnerships with supply chain companies. A good example is Carl Zeiss in optics. The group’s human resources department seeks to attract and retain highly competent people, an approach which has led to staff turnover running at 4-5%, a low level for the sector.

ASML keeps it direct environmental impact under tight control and strives to attain energy efficiency in its pro-ducts. The group has also integrated the circular economy notion in its modular design. The aim is to improve per-formance in lithographic systems so as to extend their operating life to several years or decades.

Source of data: Edmond de Rothschild Asset Management (France).1. In 1965, Gordon Moore asserted that computer speed and capacity would see exponen-tial growth. His law states that the number of transistors on a microchip doubles every 18 months on a constant cost basis.

The information about the companies cannot be assimilated to an opinion of Edmond de Rothschild Asset Management (France) on the expected evolution of the securities and on the foreseeable evolution of the price of the financial instruments they issue. This information cannot be interpreted as a recommendation to buy or sell such securities.

GOOD ECONOMICS FOR HARD TIMES, PublicAffairs, 2019

ECONOMICS IS  TOO IMPORTANT TO BE LEFT TO ECONOMISTS ALONE...This is the concluding sentence in the book written by India’s Abhijit V. Banerjee and France’s Esther Duflo, the 2019 Nobel prize in economics. Together they set up J-PAL, an MIT Poverty Action Lab which they run. The book’s title has some resonance with today’s crisis but was actually inspired by Charles Dickens’ Hard Times (1854). The authors say they wrote the book to revive hope. Both are specialists in experimenting in the field and they tackle a number of topical subjects like emigration, international trade, growth, inequalities, global warming, automation and government legitimacy. Well worth reading during, or after, the current lockdown period.

77,000 The number of Chinese lives saved thanks to the decrease in pollution during the two months of containment.

Source: Stanford University environmental resource economist Marshall Burke.

195 MILLION The number of jobs that could be lost due to the Covid-19 pandemic in the second quarter of 2020.

Source: International Labour Organization.

THE RESPONSIBLE INVESTMENT TEAM IN ACTION

April 2020. Non-binding document. This document is for information only. Any reproduction, disclosure or dissemination of this material in whole or in part wit-hout prior consent from the Edmond de Rothschild Group is strictly prohibited. The information provided in this document should not be considered as an offer, an inducement, or solicitation to deal, by anyone in any jurisdiction where it would be unlawful or where the person providing it is not qualified to do so. It is not intended to constitute, and should not be construed as investment, legal, or tax advice, nor as a recommendation to buy, sell or continue to hold any investment. Edmond de Rothschild Asset Management or any other entity of the Edmond de Rothschild Group shall incur no liability for any investment decisions based on this document. This document has not been reviewed or approved by any regulator in any jurisdiction. The figures, comments, forward looking statements and elements provided in this document reflect the opinion of Edmond de Ro-thschild Asset Management on market trends based on economic data and information available as of today. They may no longer be relevant when inves-tors read this communication. In addition, Edmond de Rothschild Asset Mana-gement shall assume no liability for the quality or accuracy of information / economic data provided by third parties. Edmond de Rothschild Asset Mana-gement refers to the Asset Management division of the Edmond de Ro-thschild Group. In addition, it is the commercial name of the asset manage-ment entities of the Edmond de Rothschild Group.

EDMOND DE ROTHSCHILD ASSET MANAGEMENT (FRANCE)47, rue du Faubourg Saint-Honoré, 75401 Paris Cedex 08Société anonyme governed by an executive board and a supervisory board with capital of 11,033,769 eurosAMF Registration No. GP 04000015 - 332.652.536 R.C.S. Paris

www.edram.fr

With the Covid-19 pandemic creating turmoil on markets, we may well ask how resilient responsible investment has proved. The answer is that SRI1 funds appear to have held up better in the crisis, in our view.

In our view, returns from SRI funds, and notably our Eurozone SRI equity fund, stem from their being overweight healthcare and underweight air transport and oil, for example, and also because companies with high ESG ratings outperformed.

To prove this theory, we tested returns on compa-nies rated by our proprietary ESG2 analysis between January and March (using the approach already adopted for the period between February 2013 and August 2019).

We had previously observed a strong correlation between a company’s stock market returns and its ESG performance over a long period. In our view, the correlation still held good in the middle of the huge crisis we are currently going through.

SRI FUNDS FACED WITH COVID-19

In the first quarter of 2020, stocks with high ratings

in our internal model sharply outperformed, or fell

less than, stocks with the lowest ratings (and the

benchmark index).

The analysis was carried out independently by the

risk division at Edmond de Rothschild Asset Mana-

gement (France) with the 25 best-rated companies

and the 25 worst-rated stocks weighted equally

(monthly reweighting).

1. Socially Responsible Investment.

2. Environmental, social and governance criteria.

3. The universe analysed is made up of 350 European companies.

The figures refer to simulations of past performance. Past performance does not prejudge future performance.

220

200

180

160

140

120

100

Perf. 10 top ESG-rated companies

Perf. 10 lowest ESG-rated companies

Perf. Benchmark : MSCI Emu

215,5

183,2

148,0

02/13 08/13 02/14 08/14 02/15 08/15 02/16 08/16 02/17 08/17 02/18 08/18 02/19 08/19

Relative performance, according to their ESG rating, of the companies evaluated by our model3 (February 2013-August 2019)

Source: Edmond de Rothschild Asset Management (France). Data as of 14/04/2020.

5 %

0 %

- 5 %

- 10 %

- 15 %

- 20 %

- 25 %

- 30 %

- 35 %

Decile 1Decile 10MSCI Emu

31/12/19 31/01/20 29/02/20 31/03/20

- 21,44 %

- 26,77 %

- 32,61 %

Decile: each of the ten parts, of equal size, of a statistical set. Source: Edmond de Rothschild Asset Management (France). Data as of 14/04/2020.

Relative performance, according to their ESG rating, of the companies evaluated by our model3 (January-March 2020)

EDMOND DE ROTHSCHILDBOLD BUILDERS OF THE FUTURE.

WE DON’TSPECULATE

ON THEFUTURE.WE BUILD IT.

INVESTMENT HOUSE | edmond-de-rothschild.com