An ESG rating is a quantitative assessment of an investment’s environmental, social, and governance characteristics. Ratings combine applicable metrics across the three pillars into an overall ESG quality score. section 4.4.2
Common rating inputs include:
- Environmental factors such as carbon emissions, water and land usage, toxic emissions, waste, and renewable-energy involvement. section 4.4.2
- Social factors such as labor management, health and safety, product safety, privacy, security, and community relations. section 4.4.2
- Governance factors such as executive pay, business ethics, and tax transparency; governance metrics apply across industries. section 4.4.2
- Providers may apply different metrics according to industry materiality, so ratings are methodology-dependent rather than universal measures. section 4.4.2
Portfolio construction can treat each ETF’s ESG rating as a score vector ε and maximize εᵀw, the weighted average rating, while constraining weights to be nonnegative, sum to one, and remain close to a reference portfolio. section 10.3.4
ESG frontier
A reference portfolio scored 6.02 with zero tracking error. Increasing the tracking-error allowance to 2.50% raised its overall ESG quality score to 8.13, while predicted volatility stayed near 12.8%. section 10.3.4
Table 4.6 Examples of ESG factors
| Environmental | Social | Governance |
| Carbon emissions | Labor management, health, and safety | Executive pay |
| Water and land usage | Product safety, privacy, and security | Business ethics |
| Toxic emissions and waste | Community relations | Tax transparency |
| Involvement in renewable energy |
Use the factor table to inspect concrete environmental, social, and governance inputs behind an overall rating. section 4.4.2
Table 10.3 Results from the ESG frontier
| Tracking error | Volatility | ESG quality score |
| 0.00% | 12.87% | 6.02 |
| 0.25% | 12.84% | 6.34 |
| 0.50% | 12.83% | 6.66 |
| 0.75% | 12.80% | 6.97 |
| 1.00% | 12.78% | 7.27 |
| 1.25% | 12.75% | 7.52 |
| 1.50% | 12.74% | 7.68 |
| 1.75% | 12.75% | 7.81 |
| 2.00% | 12.76% | 7.92 |
| 2.25% | 12.77% | 8.03 |
| 2.50% | 12.82% | 8.13 |
Use the frontier table to compare tracking error, volatility, and portfolio ESG quality across optimization targets. section 10.3.4
