Customizations driven by sustainability preferences are widely used to create indices that lie somewhere between two ends of investing style – active and passive. Previous research has shown that different sustainability-driven customizations lead to different active risk-return outcomes. This paper shows that not all exclusions are created equal. The impact of sustainability-driven exclusions depends not only on how much of the benchmark weight is removed, but also on which companies are excluded. Excluding a few benchmark-relevant large-cap companies can have a greater impact on tracking error than excluding a similar aggregate weight spread across many smaller companies. We further show that index methodology matters. The choice of index construction approach can materially affect benchmark replication effectiveness, highlighting the importance of research-driven index design choices, ongoing monitoring and regular evaluation of whether the methodology remains aligned with the index’s objectives.
in VBA Journaal door Daria Plakhova, Durga Shankar, Gaston Siegelaer and Hendro Sugandi