Integrating ESG Data to Respond to Client and Regulatory Demands

Over the last few years, environmental, social, and governance (ESG) issues have gone from the sidelines to making headlines. Whether it’s responding to new financial regulations, climate change, or putting a firm’s supply chain under the microscope, financial market participants are increasingly integrating ESG considerations into both their decision-making processes and their portfolios. But first-class ESG decision-making requires first-class ESG data.

As Managing Director of ESG Solutions at Morningstar Sustainalytics, Catalina Secreteanu has been pivotal in defining what makes “good” ESG data.

“I sit at the intersection of our research, product, and client-facing teams”, Secreteanu notes. “My core responsibility is ensuring that our suite of ESG solutions is suitable for the market. From meeting the needs of our clients to compliance with financial regulations. It’s my responsibility to represent the voice of the client and market within Morningstar.”

As ESG and regulations have evolved and diversified, so too have clients’ objectives. It’s something Secreteanu has played an active role in.

“I work with a range of clients, from pension and insurance funds to intermediaries and asset managers. While there are many goals when it comes to integrating ESG and climate data, I consistently hear of two primary use cases from asset managers.

The first is how to use this ESG data to inform their decision-making throughout the investment process; from using this data to compare funds, identifying new investment opportunities, or developing a holistic overview of a specific investment fund. Asset managers want answers to ESG-related questions like ‘how credible and effective are firm's climate transition plans?’, how do they manage labour issues in their supply chain?’, or ‘what are the real-world impacts that underpin this fund’?

The second use case focuses on how ESG and climate data can help asset managers meet their reporting requirements for both the regulators and end-clients. I’ve seen how dramatically this reporting use case has developed over the last few years. It’s one of the most significant developments in the sustainable investing space when it comes to both the sheer volume of available data and the level of detail and prescriptive data that regulators require – it's been quite an unprecedented evolution.

When it comes to ESG and climate data, you can’t take a ‘one-size-fits-all' approach. Asset managers will use different datasets depending on their needs and objectives. For example, they might apply a specific dataset if they are looking at identifying companies that make a positive environmental and social impact compared to a dataset they may consider if they are looking for a holistic assessment of risk, whether it is for portfolio analysis or investment research. With new and evolving regulations – like the UK Sustainability Disclosure Requirements (UK SDR) or the EU’s Sustainable Finance Disclosure Regulation (SFDR) – it’s inevitable that there will be an impact on ESG data.

While these regulations initially impacted investors, we’re seeing a greater focus on companies. As demand grows and firms get to grips with their obligations, we’ll see data quality and transparency increase, which can only be a positive for clients and their end-investors. Improved data quality facilitates better reporting. However, I do think it’s fair to say that the bar is already incredibly high for many of our clients when it comes to ESG reporting – they're keen to meet the sustainability objectives of their end investors and mitigate greenwashing.”

Not all ESG data is created equally, and this is something Secreteanu is acutely aware of.

“From my experience, and from what I’ve heard and seen in the market, there are three interconnected challenges when it comes to ESG and climate data.

The first challenge is that the reported data from companies will vary greatly depending on the sector, geography, jurisdiction, and company size. Data that’s reported on in one region may not necessarily be available in another, so discrepancies do occur, which can be a pain point for asset managers, especially if they’re looking to compare companies, compare funds, and assess fund performance. It’s a very valid concern and critique of ESG data.

The second challenge pertains to data quality. The discrepancy in reported data has a significant impact on the availability and quality of ESG-related datasets. For instance, data on scope 3 carbon emissions is considered critical information to many of our investor clients. As this is a newer area, not all companies report on this, so the data is either not available, or if it is, it’s typically very immature data.

The third challenge relates to methodologies. We’ve seen variance when it comes to reported data, data quality, and also in the methodologies used. We know that asset managers use different datasets depending on their objectives. But it’s important to be aware that amongst providers, differing methodologies and approaches means investor clients might see different outcomes at a fund or portfolio level, based on the methodology deployed to assess a company’s ESG and climate-related exposures and risks. Personally, I cannot recommend enough that investors – both asset managers and asset owners – thoroughly understand the methodologies and data sources of the ESG data partner they collaborate with.”

Complex challenges demand nuanced solutions, and it's here that Secreteanu believes Morningstar has an important role to play.

“I’d say there’s a lot of uncertainty and concern across the market. Asset managers are balancing compliance requirements, ever-expanding datasets, and shifting client demands. As a leader in the space, Morningstar has a unique opportunity to set the tone and standard when it comes to ESG and climate data.

So, when we look at the discrepancies in reported data, we take several approaches. Part of our mandate is to collect, structure, and analyse available data into a consistent set of indicators. We use a mixture of proprietary and public data, and where there’s immature reported data, we interrogate it rigorously.

By bringing together disparate sources of data into one place and subjecting it to our diligence process, we’re able to provide asset managers with data that’s accessible and transparent, so they have the resources they need to meet their regulatory reporting requirements, which as I mentioned, are very prescriptive.

Additionally, our approach to ensuring data quality, especially in instances like scope 3 carbon emissions, is to draw on the data available and run estimation models for non-reporting companies. Depending on the dataset, our analysts may take it and enrich it further, by contextualising collected data into indicators and aggregating it at a company or fund level.

Asset managers can examine the data within a wider narrative context, which makes it easier to do vital work like compare funds or conduct portfolio analysis. By using easy-to-understand visualisations– like our Medalist Ratings, ESG Pillar Scores or Portfolio Sustainability Score – we're able to distil complex information into engaging and digestible reports. For asset managers this is a huge advantage. They can create reports that, at a glance, show their ESG investment story, which is crucial for meeting regulatory obligations or having conversations with their end investors. It empowers them with a common language for talking about ESG.

Ultimately, we’re committed to expanding the depth and breadth of our ESG and climate data. With an existing range of diverse datasets, I’m excited about the future of ESG data. As financial market participants increase their resources when it comes to climate data or specialists to navigate regulations, I’m proud that Morningstar's key strength is that we truly understand the different regulatory needs, adjust our data accordingly, and translate these complex signals into something that’s understandable and actionable.

Everything we do is designed to enable investors (both asset managers and asset owners) to deliver on their ESG and climate objectives in a transparent manner, which helps the end investor feel more empowered during the investment process.

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Catalina Secreteanu has not received any cash or non-cash compensation from Morningstar, directly or indirectly, in exchange for this story.