IN THIS LIST

Currency Hedging U.S. Equities: A Practical Tool for Global Investing

InsuranceTalks: A Multi-Asset Solution for Navigating Volatile Markets

FATalks: Factors, Risk, and Why Passive Outperforms over Time

Spotlight on Japan: How Carbon-Efficient Indices Can Shape the ESG Landscape

FAQ: S&P/B3 Brazil ESG Index

Currency Hedging U.S. Equities: A Practical Tool for Global Investing

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Claire Yi

Analyst, Strategy Indices

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Tianyin Cheng

Senior Director, Strategy Indices

When investing in the U.S. stock market, non-U.S. investors take on both equity risk and currency risk.  Adverse moves in exchange rates can dramatically affect investment outcomes.  Currency hedging is one technique that is designed to take currency risk out of the equation when investing in the U.S. market from overseas.

This paper examines the mechanics and the potential benefits of currency hedging, using the U.S. equity market as an example, from the perspective of international investors.  We explore the impact of currency risk on performance, the methodology of the S&P 500® Currency Hedged Indices, as well as key factors to consider when overlaying a currency hedge on a portfolio.

IMPACT OF CURRENCY RISK ON PERFORMANCE

Currency risk can threaten returns as a result of changes to foreign exchange rates.  In Exhibit 1, we compare the historical performance of the S&P 500 calculated in U.S. dollars with its counterpart in Japanese yen.  The only difference between these two return series is the reporting currencies, thereby representing the currency risk impact.  Please see the appendix for the performance of the S&P 500 denominated in other major Asian currencies.

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The impact of currency risk can be substantial depending on the magnitude of dislocation in the currency market.  Exhibits 1 and 2 show that returns of the S&P 500 in U.S. dollars versus the S&P 500 in yen differ noticeably between June 2007 and January 2012, and between September 2012 and July 2015.

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During the first period, the U.S. dollar depreciated significantly relative to yen, thus a yen-denominated investor would have received negative currency return, decreasing the gains that could have been derived from investing in S&P 500.  However, during the second period, the U.S. dollar appreciated against the yen, so a yen-based investor would have benefitted from positive currency returns, magnifying the expected investment outcomes.

A non-U.S. investor who wishes to avert divergence from investment objectives should carefully take currency risk into consideration.

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InsuranceTalks: A Multi-Asset Solution for Navigating Volatile Markets

Insurance Talks is an interview series where insurance industry thinkers share their thoughts and perspectives on a variety of market trends and themes impacting indexing.

Rhonda Elming is Senior Vice President, Annuity Product Development at Sammons Financial Group. Based in West Des Moines, Iowa. Elming is responsible for fixed annuity product strategy, including new product development and managing the profitability and risk profile of the company’s inforce block of business.

S&P DJI: Tell us a bit about your role at Sammons Financial Group and how you serve the insurance space.

Rhonda: I lead a team of actuaries and analysts that are focused on creating innovative fixed annuity product solutions to help people prepare for retirement, while also helping the company understand and manage financial risks. I work closely with each of our distribution channel leadership teams to identify and understand its unique business and client needs. Through that process, we do a lot of ideation to arrive at a product design that meets the needs of the target market and fits within the desired risk and profitability requirements for the company. My team is responsible for the pricing, regulatory filings, and implementation efforts to bring the products to market.

In my product management role, I have the responsibility of effectively managing the risk and profitability of both the annunity new business and the in-force block. Annunities are a spread business; a large part of this role is setting interest-crediting rate or index parameters on the products.

S&P DJI: Is risk management more of a focus now for Sammons Financial Group in the current market environment?

Rhonda: Yes, the current economic environment is a challenge! Market volatility and historically low interest rates have resulted in widespread adjustments to product portfolios including lowering crediting rates or policy benefits. In some cases, insurers have also suspended sales of products with unfavorable risk or profitability profiles.

Planning for a prolonged low interest rate environment—with the potential for negative interest rates—has been a high priority for a while now. A “lower-for-longer” outlook, particularly for longer duration assets, may lead to higher levels of spread compression on in-force blocks of business and put pressure on insurers’ ability to continue to offer longer liabilities, like guaranteed living benefit riders or guaranteed universal life insurance.

The pandemic has also created unique challenges, with most insurance company employees and distributors working from home. Annuity sales have fallen this year due to shelter-in-place restrictions, record unemployment, and volatile economic conditions. Agility is the name of the game, as insurers adapt to new work arrangements, regulatory changes, and a heightened need to help policy owners, distribution partners, and their local communities through this difficult time.

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FATalks: Factors, Risk, and Why Passive Outperforms over Time

FATalks is an interview series where industry thinkers share their thoughts and perspectives on a variety of market trends and themes impacting indexing.

Larry Swedroe is Chief Research Officer of Buckingham Wealth Partners. Since joining the firm in 1996, Larry has spent his time, talent, and energy educating investors on the benefits of evidence-based investing with enthusiasm few can match.

Larry was among the first authors to publish a book that explained the science of investing in layman’s terms, “The Only Guide to a Winning Investment Strategy You’ll Ever Need.” He has since authored seven more books, co-authored eight more, and has had articles published in the Journal of Accountancy, Journal of Investing, AAII Journal, Personal Financial Planning Monthly, and Journal of Indexing.

S&P DJI: You recently participated in a webinar geared toward financial advisors titled “How Did COVID-19 Affect Active vs. Passive Performance?” in which SPIVA® results through the initial wave of the pandemic were analyzed. What were your biggest takeaways from the analysis of this data?

Larry: One of the biggest myths that Wall Street wants and needs investors to believe in order to keep them playing the game of active management and paying higher fees is, “Active management maybe doesn’t win in bull markets due to a cash drag, but these managers will protect you in bear markets.” I might be willing to accept a lower return in the long run if I get insurance in the really bad market environments, especially if I’m a retiree in the withdrawal phase. The truth is, active managers generally tend to actually do a little bit worse in bear markets than bull markets. One study found[1] that in every single turning point in the market, the average active manager got it wrong. For example, when the market was at a peak in March 2000, active managers had the least amount of cash and at the bottom in 2008-2009, they had the most cash.

This data is in line with the period we examined in the webinar. During the initial stages of the COVID-19 crisis, even though active managers had the ability to go to cash, almost two-thirds still underperformed. Every year, I hear that this is a stock picker’s year, but it has never overall been a stock picker’s year when you adjust for risk appropriately.

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Spotlight on Japan: How Carbon-Efficient Indices Can Shape the ESG Landscape

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Mona Naqvi

Global Head of ESG Capital Markets Strategy, S&P Global

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Ryan Heslin

Analyst, ESG Indices

INTRODUCTION

The S&P Global Carbon Efficient Index Series is designed to reduce carbon exposure while maintaining similar levels of risk/return to the benchmark.  Most notably, the index series incentivizes behavioral change among companies by uniquely encouraging two things:

  • Greater corporate transparency by rewarding companies that disclose greenhouse gas (GHG) emissions with a 10% boost in index weight; and
  • The diversification of company business models toward low-carbon alternatives as companies seek to improve their standing in the index.

The latter is achieved by assessing the carbon performance of companies (based on GHG emissions data from Trucost), sorting them into deciles within GICS® industry groups, and reweighting accordingly.  However, since some industries are inherently more GHG emitting than others, our methodology considers the spread of possible emissions within an industry group and increases or decreases company weights by either a greater or lesser extent, depending on how much a company can feasibly improve given current available technologies.

For example, a highly carbon-efficient Energy company in the top decile of the broad-ranging Energy industry is likely to be far ahead of its peers and, thus, deserves a significant weight increase of 120%.  Conversely, a Media company in the top decile of the smaller-ranging Media industry only receives a small weight increase of 20%, as it is only slightly ahead of its peers.  Vice versa, a high-emitting Energy company in the bottom decile would get a weight reduction of 90% versus just 15% for a Media company in the same position (see Exhibit 1).  As such, companies are incentivized to both disclose and decarbonize to boost their overall standing—to the extent that they are able to. 

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The S&P Global Carbon Efficient Index Series is designed to measure financial markets worldwide and offers market participants the opportunity to reduce their exposure to carbon risk.  The methodology is also sector neutral, amounting to a carbon reduction of 20%-60% relative to the underlying benchmarks, with low tracking errors and comparable returns, thereby demonstrating that there need not be an inherent trade-off between investment performance and decarbonization.  In theory, the carbon performance of the S&P Global Efficient Carbon Index Series should further improve over the long term, as companies adapt their behavior and as the indices continue to grow in popularity among market participants.  Indeed, our initial results to date suggest that they are already heading in that direction.

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FAQ: S&P/B3 Brazil ESG Index

COMPANY BACKGROUND

  1. Who is S&P Dow Jones Indices?  S&P Dow Jones Indices (S&P DJI) is home to iconic financial market indicators, such as the S&P 500® and the Dow Jones Industrial Average®. The largest global resource for essential index-based market concepts, data, and research, it is a major investor resource to measure and trade the markets.

    S&P Dow Jones Indices has been a pioneer in environmental, social, and governance (ESG) indexing for 20 years, starting with the 1999 launch of the Dow Jones Sustainability World Index. Today, we offer an extensive range of indices to fit varying risk/return and ESG expectations, from core ESG and low-carbon climate approaches, to thematic and fixed income ESG strategies.

  2. Who is SAM?  SAM was founded in 1995 and has been a partner of S&P Dow Jones Indices since 1999, when they worked together to launch the Dow Jones Sustainable Index (DJSI) Series. SAM provides ESG Research and Benchmarking and conducts the annual SAM Corporate Sustainability Assessment (CSA). SAM was formerly a part of asset manager RobecoSAM. In January 2020, it became a part of S&P Global.

S&P/B3 BRAZIL ESG INDEX

  1. What is the S&P/B3 Brazil ESG Index?  The S&P/B3 Brazil ESG Index is an S&P DJI ESG Score-weighted, broad-based index that seeks to measure the performance of stocks meeting sustainability criteria. The index applies exclusions based on business activities and United Nations Global Compact (UNGC) scores. ESG stands for environmental, social, and governance.
  2. What are the S&P DJI ESG Scores?  S&P DJI ESG Scores are environmental, social, and governance scores that robustly measure ESG risk and performance factors for corporations, with a focus on financial materiality. The S&P DJI ESG Scores are used in the constituent weighting process in the S&P/B3 Brazil ESG Index. They are a second set of ESG scores calculated by SAM, in addition to the S&P Global ESG Scores (formerly known as SAM ESG Scores) that are used to define the Dow Jones Sustainability Indices constituents.

    The S&P DJI ESG Scores are the result of further scoring methodology refinements to the S&P Global ESG Scores. These are based on SAM’s annual Corporate Sustainability Assessment (CSA), a bottom-up research process that aggregates underlying company ESG data to score levels. The scores contain a total company-level ESG score for a financial year, comprising individual environmental (E), social (S), and governance (G) dimension scores, beneath which there are on average 21 industry-specific criteria scores that can be used as specific ESG signals (see Exhibit 1).

    FAQ: S&P/B3 Brazil ESG Index

    A company’s total ESG score is the weighted average of all criteria scores and their respective weights. Each individual ESG dimension score (e.g., a company’s “E” score) is the weighted average of all criteria scores and weights within a specific ESG dimension. Total ESG scores range from 0-100, with 100 representing the best performance.

    For more information on the S&P DJI ESG Scores, please see the S&P DJI ESG Scores Frequently Asked Questions.

  3. How are the S&P DJI ESG Scores used in this index?  S&P DJI ESG Scores are used in the weighting of the S&P/B3 Brazil ESG Index. Companies in the eligible universe (see question 3 in the Methodology section) are weighted by S&P DJI ESG Score, subject to weighting caps and liquidity constraints (see question 6 in the Methodology section).
  4. Can this index be customized?  Yes. This index is an example of how the S&P DJI ESG Scores can be used in an index strategy. For further information on the scores or options for customizations, please contact your S&P DJI account representative, or visit /spdji/en/contact-us/.
  5. How does the index perform relative to its benchmark, the S&P Brazil BMI?  Index performance statistics are presented for all S&P DJI indices on their index factsheets, found via https://www.spglobal.com/spdji/. The index factsheet for the S&P/B3 Brazil ESG Index can be accessed at /spdji/en/indices/equity/sp-b3-brazil-esg-index/.

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