Materiality matters

The Financial Times recently published a series of articles raising questions around the financial materiality of sustainability. The conclusion from a study by Bruno et al (2021) is that sustainability is not a separate financially material issue, but an element of the quality factor that many investors already incorporate into their investment strategy. And, based on a study by Lioui and Tarelli (2021), they state that any higher returns from sustainable investment are declining and are set to disappear – see figure 1. Is this the beginning of the end of sustainable investing?

In our opinion, these studies in no way undermine the importance of sustainable investing, but show that the concept of financial materiality and sustainable investing in general are still developing. In fact, in our view, these studies show that it is becoming increasingly important for investors to have a clear insight into the financial materiality of sustainability. Or rather, it is increasingly important for investors to be able to assess which sustainability issues are material at present and which will become material in the future.

Figure 1: outperformance associated with ESG factors

outperformance associated with ESG factors
Source: Catholic University of Milan


Sustainability issues are financially material if they affect a company’s value, for example because they affect a company’s revenue, margins, capital costs, cash flows or risks. A classic example of this is the impact of the Deepwater Horizon disaster on BP. The extra depreciations and drop in the share price of Constellation Brands after it had to abandon plans for a new brewery in Mexico in 2020 due to a referendum on water use also shows that (potential) environmental impacts can have financial repercussions.

Based on the idea that non-sustainable behaviour of companies can affect their financial situation and therefore their share price, it is important that investors factor sustainability into their considerations.

A growing number of studies point to the financial materiality of sustainability. Research by Khan et al.1 reveals that companies with good ratings on financially material sustainability issues outperform companies with poor ratings on these issues. They also reveal that companies with good ratings on non-material sustainability issues do not outperform companies with poor ratings on these issues. A meta-analysis by Whelan et al. (2021) underscores this and concludes that the majority of studies on the financial materiality of sustainability reveal outperformance by sustainable investment portfolios2. The abovementioned study by Bruno et al. (2021), which suggests that this outperformance is explained by the quality factor and that sustainability and the quality factor are correlated, does not contradict these results. Indeed, Chen and Deleon (2020) have already shown that investment portfolios that combine quality and sustainability show a greater outperformance than portfolios composed on the basis of either of these factors alone3. Thus, insight into the financial materiality of sustainability helps to find high-quality companies.

The financial materiality of sustainability is confirmed by in-house research by ACTIAM4. Three results stand out.

  • Portfolios containing companies classified by ACTIAM as sustainable, generally lead to a significantly higher alpha than portfolios containing companies that ACTIAM describes as exhibiting unacceptable behaviour or as being non-adaptive or at-risk5. This shows that adaptive companies and companies with a positive impact create less risk for the funds than other categories of companies and that those sustainability issues that ACTIAM classifies as the most material per sector impact share prices – see also figure 2.

Figure 2: Cumulative portfolio returns for different categories of company6

Cumulative portfolio returns for different categories of company
Source: ACTIAM

  • The financial materiality of sustainability issues varies from sector to sector. A portfolio strategy based on an ESG rating that takes account of the environmental and social impact of sectors leads to a higher alpha than a strategy in which ESG ratings are based solely on comparison with companies in the same sector (best in class). This shows that sustainability is more material for some sectors - particularly those with a significant negative environmental impact such as oil and gas or materials - than for others. This is in line with the previously mentioned results of Khan et al. (2016) and also argues in favour of an ESG rating methodology that allows for differences in materiality of sustainability issues between sectors.
  • Portfolios containing companies that are taking steps to improve sustainability lead to greater outperformance than portfolios containing companies with the highest ESG ratings. Although these results are less clear-cut and require further research, this is in line with previous observations that the lower risks and better results of best-in-class companies are already (partially) factored in, but that this is less the case for companies that are merely taking steps to improve sustainability.


Whereas there is growing consensus that sustainability is financially material, there is hardly any consensus as to which sustainability issues are most material. Whelan et al (2021) also remark that a meta-analysis of materiality is made more difficult by differences of opinion as to what is sustainable. The SASB framework and ESG analyses by data providers and brokers help investors determine what factors are material or not, while tending to disagree as to the degree of materiality. In view of this, it is important for investors to continue to reflect carefully on this themselves. Based on experience of financial materiality, supported by the results of the above analysis and many other recent studies, it is possible to draw three lessons from the financial materiality of sustainability.

Lesson 1: distinguishing short-term market fluctuations from long-term trends.

The first lesson is that short-term market fluctuations sometimes obscure the view of long-term financial materiality. At the beginning of 2021, oil and gas stocks and many raw materials rose sharply in value. This calls into question whether the energy transition will be completed on time if oil and gas remain so popular, but also whether a shortage of raw materials and the chip shortage will make the energy transition too expensive. It is important in this regard not to confuse short-term market fluctuations with long-term trends in financial materiality.

The majority of future scenarios still indicate that demand for oil will shortly peak – see figure 3.

Furthermore, the shortage of raw materials and chips is largely attributable to Covid-19, which has led to shocks in supply and demand and deferred investments. Under growing pressure from politicians, business leaders and financial institutions, and given the increasingly clear impact of climate change, the energy transition will rise higher on the agenda and impact more sectors in the coming years. However, factors that will continue to be uncertain for some time are the speed of the energy transition, which technologies will be first to break through and what this will mean for the demand for raw materials and semi-finished products. Energy and raw material-related stocks are therefore expected to remain volatile for some time and companies and investors run the risk of committing to innovations that will not break through in the end.

Figure 3: Net-zero transition pathways for oil demand7

Net-zero transition pathways for oil demand
Source: IEA, OPEC, S&P Global Platts Analytics

Lesson 2: what is not material now could become material in future.

Materiality is dynamic and can vary from place to place and from time to time. In recent years, the energy transition has received greater focus in Europe than in the United States. At the same time, diversity and inequality have received greater focus in the US than in Europe. Due to the coronavirus pandemic, social issues such as working conditions and a living wage have rapidly become material, particularly in sectors that rely on manufacturing. During the pandemic, automotive, food-processing and clothing businesses ran the risk of having to shut down production if they did not protect their staff properly, and now that the European and American population is largely vaccinated and economies are opening up again, several sectors are unable to find sufficient staff because they have found better paid work elsewhere. In addition, the EU Green Deal is expected to rapidly make several issues more material. The EU Green Deal introduced the concept of ‘double materiality’, which includes not only financial materiality but also the impact of non-financial material factors on society. Investors looking for a European sustainability stamp also have to factor these non-financially material issues into their decisions. For example, they have to report on the adverse effects of their investments on greenhouse gas emissions, water use or (gender) diversity, even if this is not found to be financially material. This appears to contradict the findings of Khan et al.

However, if a growing group of investors wants to rate highly on the EU SFDR, they will automatically make these issues more material. They will include them in their financial considerations, which will then affect the share prices and capital costs of companies that are highly rated on these issues. So, even if an issue is not financially material now, it could soon become so.

The Financial Times article mentioned earlier, pointing to a decline in the financial advantage for companies with a higher ESG rating, appears to ignore this dynamic aspect of materiality. In fact, the first-mover advantage is expected to disappear, with share prices factoring in an issue once more investors view climate change or data privacy, for example, as material. But it also remains the case for materiality that past performance is no guarantee of future results and that the emergence of new sustainability issues in society will affect share prices.

Especially now that passive investing is seriously taking off, you might ask yourself whether markets are picking up and factoring in issues quickly. This emphasises how important it is for investors to keep track of which sustainability issues are becoming more material over time. Particularly now that social and technological developments are following each other in quick succession, it is becoming increasingly important for investors to have insight into future material sustainability issues.

Lesson 3: companies and investors do not always have the same opinion about financial materiality.

One of the results of ACTIAM’s study mentioned above is that companies that lag behind when it comes to transition – such as companies that ACTIAM has ruled out because they are still committed to coal on a large scale – have a negative impact on returns. There are also indications that companies that are taking steps towards their transition – such as car manufacturers that embrace electrification or companies that retain staff by good human capital management – have a positive impact on returns. It is therefore important for investors to learn to identify which companies have the adaptive capacity to keep pace with social transitions.

However, companies do not always agree with investors about the pace at which issues are becoming financially material. Earlier this year, shareholders at the AGMs of companies such as Chevron, Exxon and DuPont disagreed with boards about the speed of the energy transition. Shareholders increasingly see it as risky when companies’ sustainability policies lag behind.

Research also shows that voting and engagement are effective ways of making an impact in the real economy and encouraging companies to go the extra mile8. For example, companies with climate targets have already reduced their emissions more than companies without targets9, which underlines the importance of engagement to encourage companies to set sustainability targets and prepare transition plans. Detailed transition pathways that estimate the speed of transition have already been mapped out for climate transition and investors can draw on them.

Although no such transition pathways exist as yet for issues such as a living wage, biodiversity and plastic pollution, ACTIAM’s engagement projects around these issues show that, with some extra information, companies are realising that change is inevitable and there is now a momentum to embed these issues in their policy. The philosophy here is that improving sustainability leads to fewer fluctuations or higher share price rises and that lagging behind leads to higher costs further down the line.


This article illustrates how insights into the financial materiality of sustainability have permanently altered the work of investors. The criticism referred to at the beginning of the article is not so much a sign that sustainability is not financially material, but rather primarily an indication that the financial materiality of sustainability is a dynamic concept that changes with developments in society. Some still deny that knowledge about sustainability is necessary for investors10. But research is increasingly showing that it is important for investors to have insight into those sustainability factors that are material and to incorporate them into their financial analyses. Only with this knowledge can investors distinguish long-term trends from short-term market fluctuations. And only then will investors be able to identify the future material sustainability factors. Given that the sustainability transition is gaining momentum and new issues are rapidly becoming financially material, this knowledge is essential.

1 - Khan, M., Serafeim, G. and A. Yoon. 2016. Corporate sustainability: first evidence on materiality. The Accounting Review, 91 (6), pp. 1697-1724.

2 - Whelan, T., Atz, U. Van Holt, T. and C. Clark, 2021. ESG and financial performance: Uncovering the relationship by aggregating evidence from 1000 plus studies published between 2015-2020. NYU Stern Center for Sustainable Business, Rockefeller Asset Management.
3 - Chen, Y. and A. Deleon. 2020. Financial quality metrics and ESG factor interactions in equity markets. Journal of Impact and ESG Investing, Winter 2020.
4 - This analysis was carried out based on the MSCI Europe universe for the period 2012-2020 based on the Fama-French 5-factor model
5 - See: Sustainability Framework | Support the transition to a sustainable world – ACTIAM. The ACTIAM Sustainable Investment Framework describes how ACTIAM divides companies into the categories of ‘unacceptable behaviour’, ‘non-adaptive’, ‘at-risk’, ‘adaptive’ and ‘impact’, taking into account their adaptive capacity in relation to ongoing sustainability transitions.
6 - J. van Walsum. 2021. A comparison between publicly accessible and private ESG-ratings on European Stocks. University of Amsterdam, Amsterdam Business School. MSc thesis.
7 - Fuel for Thought: IEA’s path to net-zero keeps Big Oil guessing over pace of green pivot | S&P Global Platts (
8 - Kölbel, J.F., Heeb, F., Paetzold, F. and T. Busch. 2020. Can sustainable investing save the world? Reviewing the mechanisms of investor impact. Organization & Environment 33(4), pp.554-574.
9 - 330+ target-setting firms reduce emissions by a quarter in five years since Paris Agreement - Science Based Targets
10 - See for example the comments on the two articles from the Financial Times mentioned above.