TBLI Conference Asia 2009A Comprehensive Analysis of the

Relationship Between ESG and Investment Returns

K. Stuart Peskin, CFA

May 27, 2009

2

Presentation Overview

Rationale for study

Examination of the study results

The way forward

A Need to Know – Has ESG investment been rewarded historically?

3

Rationale for Study

Many believe that a logical link between ESG ratings and future investment returns exists

Key relationships have not definitely been answered by existing industry studies

Prior internal SSgA studies were not sufficiently broad or conclusive

External expectations for an asset manager to understand how ESG factors impact performance have increased

A Need to Know – Has ESG investment been rewarded historically?

4

Study Overview

Scope: broad study conducted on all world markets 10 datasets analyzed: seven Environmental, five Social and

eight Governance Analysis period begins in 2003 due to paucity of earlier data Developed market focus due to paucity of Emerging market data

Methodology Tested all individual datasets Combined like datasets into blended environmental, social and

governance “superfactors” Aggregated all data sets into single superset to produce a

generalized ESG superfactor

Global quantitative examination of the relationship between ESG ratings and investment returns

5

Key ESG Findings

Highly ranked ESG companies do not outperform poorly ranked ESG companies

However, selective application of ESG factors can add value

ESG payoff can be swamped in the short run by macro drivers of share prices

ESG factors can sometimes act as good stock selectors within an industry

The relationship between ESG performance in share price is variable yet there are pockets of alpha power

All Country: yearly average IC of super ESG rating

-0.1

-0.05

0

0.05

0.1

2003 2004 2005 2006 2007 2008 average

1

3

6

12

Source: SSgA, Advanced Research Center, September 2008

6

Global ESG Factor

A simple measurement of super ESG ratings across global equity markets shows that companies with good ESG ratings were not rewarded with good share performance

US and Canadian companies had the poorest relationship European companies had a weaker relationship Asia Pacific companies were close to indifferent

Companies with very high ESG rankings outperform average companies but so do those firms with very poor ESG rankings

ESG appears to have promise as a means to differentiate within sector

7

Global ESG Factor (Cont’d)

Using ESG performance as a discriminator between companies within the same sector works in 8 of 10 sectors analyzed

Materials consistently negative Utilities consistently positive

GICS 55: yearly average IC of super ESG rating

-0.1

0.0

0.1

0.2

0.3

2003 2004 2005 2006 2007 2008 average

1

3

6

12

GICS 15: yearly average IC of super ESG rating

-0.3

-0.2

-0.1

0

0.1

2003 2004 2005 2006 2007 2008 average

1

3

6

12

Source: SSgA, Advanced Research Center, September 2008

8

Global Environmental Factor

Companies with poor environmental polices have been rewarded for polluting and the largest emitters have had the best returns

This relationship is very strong in Australia Japan is the only country where we find that clean companies

were rewarded

Compared to the average company low polluters outperformed but high polluters outperformed by an even greater margin

Findings follow historical logic but logic similarly dictates that past performance is no guarantee of future results

9

Global Environmental Factor (Cont’d)

At the sector level we find only one sector that persistently rewarded high polluters and one that rewarded low polluters

Materials rewarded large polluters Utilities rewarded low pollutersGICS 15: yearly average IC of super E rating

-0.2

-0.1

0

0.1

0.2

2003 2004 2005 2006 2007 2008 average

1

3

6

12

GICS 55: yearly average IC of super E rating

-0.2

-0.1

0.0

0.1

0.2

2003 2004 2005 2006 2007 2008 average

1

3

6

12

Source: SSgA, Advanced Research Center, September 2008

10

Global Social Responsibility Factor

Globally, the investment performance of a company bears little relationship to its level of social responsibility

More recently in Asia Pacific, and particularly in Japan, companies with good social ratings demonstrate superior performance

United States companies are weakly penalized for being socially responsible

Socially responsible companies not historically rewarded but some evidence of change over time

11

Global Social Responsibility Factor (Cont’d)

At the sector level, the relationship between like companies with varying levels of social responsibility is also weak

Industrials and Utilities show a positive relationship between good social behavior and performance

Materials consistently negative but strengthening over time

GICS 15: yearly average IC of super S rating

-0.3

-0.2

-0.1

0

0.1

2003 2004 2005 2006 2007 2008 average

1

3

6

12

GICS 20: yearly average IC of super S rating

-0.2

-0.1

0

0.1

0.2

2003 2004 2005 2006 2007 2008 average

1

3

6

12

Source: SSgA, Advanced Research Center, September 2008

12

Global Governance Factor

Well-governed companies underperformed in the US yet outperformed in Canada and Asia Pacific

Poorly-governed companies in Australia, Japan and Canada have on average had very poor investment performance but the best governed companies are not found to outperform the average company

In the UK, the best-governed firms outperform average the average company with the poorest governed firms also occasionally outperforming

Causal relationship between quality of governance and stock return remains unclear

13

Global Governance Factor (Cont’d)

At the sector level, well-governed firms outperform in 3 out of 10 sectors Consumer Staples, Telecommunication Services and

Utilities outperform Consumer Discretionary and Financials underperform

GICS 55: yearly average IC of super G rating

-0.1

0.0

0.1

0.2

0.3

2003 2004 2005 2006 2007 2008 average

1

3

6

12

GICS 40: yearly average IC of super G rating

-0.2

-0.1

0.0

0.1

0.2

2003 2004 2005 2006 2007 2008 average

1

3

6

12

Source: SSgA, Advanced Research Center, September 2008

14

Summary of ESG Factor Power

The observed relationships between ESG exposures and future stock returns are weak relative to primary drivers of market returns

Macroeconomic environment can swamp the ESG effect

ESG power may still be harnessed to improve expected returns Macro effects can be neutralized by making comparisons

within sector ESG factors can applied selectively to market segments that have

high ESG exposures

The expected payoff for ESG factors is over a longer horizon Longer run statistics should be observed when analyzing results Broad portfolios with ESG tilts stand the best chance of succeeding

15

Issues to Consider

While the linkages discovered exhibit generally good statistical significance, there is more work to be done on understanding the financial logic of the empirical relationships

The effect of the macro environment may overwhelm the effect of ESG in the short run

A degree of judgment is required in determining which ESG relationships discovered will have relevance in the future

The future environment for ESG influence on corporate profitability may change and in the case of carbon, is expected to change

16

Conclusion

There are enough promising pockets of ESG based outperformance in our analysis to warrant further investigation

A forward view of how things will change is required to justify good expected returns

Periodic updates as more information becomes available and conditions change will be required

SSgA is investigating the logical arguments for fit with statistical results

We anticipate that with selected ESG tilts or careful application of ESG Alpha factors, it may be possible to produce ESG friendly portfolios and simultaneously retain or enhance return expectations

A good beginning yet more work remains

17

This document is prepared / provided for the purpose of explaining about investment performance analysis and is not intended to solicit investment into a specific financial product. No part of this material may be copied or duplicated in any form or redistributed without SSgA’s prior written consent.

The document may include materials prepared by State Street Global Advisors (Boston). The data are sourced from presumably reliable sources but the accuracy / completeness is not guaranteed. Past performance and simulated results are not guarantees of actual future performance results.

Information in this document is as of May 2009 and subject to change without notice.

State Street Global Advisors (Japan) Co., Ltd.

Financial Instruments Firm Registration Number 　 Director of Kanto Local Finance Bureau (Kinsho) No.345Member of Japan Securities Investment Advisers Association

Member of The Investment Trusts Association, JapanMember of Japan Securities Dealers Association