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The Morningstar Sustainability Rating

Jon Hale

Head of Sustainability Research

Morningstar, Inc.

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The Morningstar Sustainability Rating:

Giving investors the tools they need to make

sound financial decisions

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0%

10%

20%

30%

40%

50%

60%

70%

80%

Express Values Positive Impact CompetitiveReturns

Age 70+

Boomers

Gen X

Millennials

Source: US Trust Insights on Wealth and Worth, 2014

Investors – especially younger -- want to express

values, focus on positive impact, and believe they

can achieve competitive returns

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Advisors less interested; lack information

Source: Cerulli Associates advisor survey cited in “Social Fund Inflows Could Make Big Shops See Green, “ Matthew Beaton, Ignites, March 5, 2015

7%

30%

63%

0%

10%

20%

30%

40%

50%

60%

70%

Highly interested Somewhat interested Little or no interest

5

A need for portfolio-level ESG analytics

Asset

Manager Advisor

Market

Demand

Asset Owner

Ind

ivid

ua

l

Se

cu

rities

Ma

na

ge

d

Pro

du

cts

P

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os

Retail Investor

g Leading provider of independent

investment research

g Serves individuals, advisors, asset

managers, retirement plan sponsors

and providers, and other businesses

around the world

g Deep commitment to bottom-up

research: Thirty years of local

expertise, global research coverage,

and a deep analyst bench

g Transparent methodologies to track,

research and rate more than 250,000

managed products 6

g Global leader in sustainability

research and analysis

g Serves investors and financial

institutions around the world

g Deep commitment to bottom-up

research: Twenty years of local

expertise, global research coverage,

and a deep analyst bench

g Transparent methodology providing

70 indicator level scores at the

company level for more than 4,500

companies

Bottom-up research. Transparent methodologies.

Global reach. Independent voice.

Company ESG Research

Two Signals Used by Morningstar

Company ESG Ratings Overall ESG Score (0–100)

• Environmental Score

• Social Score

• Governance Score

Controversy

Assessments • Based on 10 issue areas

• Scored for severity 1 (low) – 5 (high)

• Outlook

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ESG Ratings

4,600 unique issuers

Controversy Research

15,000 unique issuers

Daily News Screening

Daily Incident Creation

Bi-weekly Controversy

Updates

B. Daily News and Media Monitoring

Company ESG Research

Research Process

A. Ongoing Review

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Risk Appetite

Company Data

Media and NGO Information Analysis

Stress & Scenario Testing

Risk Culture

Research Process

Publication of ESG Rating Report

Quality and Peer Review

Company Feedback

A new lens for portfolio sustainability analysis

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• The Rating is a category-relative measure of the sustainability performance of companies held in a portfolio

• Sustainability performance = how well companies are managing their ESG risks and opportunities

• Applies to all funds, globally

• Based on quality ESG research

• Part of broader Morningstar Sustainable Investing initiative

Step One:

Portfolio Sustainability Score

Portfolio Sustainability Score =

Asset-weighted roll-up of company-level ESG scores with deductions made for holdings with controversial incidents

• Company-level ESG scores and controversial incidents from Sustainalytics

• Company-level analytics apply to stocks and bonds

• Scoring threshold: 50% of AUM must have ESG scores for a portfolio to receive a score

Measures how well the companies in a portfolio are managing their ESG risks and opportunities relative to their industry group

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Step Two:

Morningstar Sustainability Rating

Morningstar Sustainability Rating =

Portfolio Sustainability Score relative to Morningstar Category

• Sorted into five normally distributed groups

• Rating threshold: At least 10 portfolios in a category must have portfolio scores for any funds in the category to receive a rating

Measures how well the portfolio’s holdings are managing ESG risks and opportunities relative to the fund’s category peers

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Score Percent Word Label

5 Top 10% High

4 Next 22.5% Above Average

3 Next 35% Average

2 Next 22.5% Below Average

1 Bottom 10% Low

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Using the Ratings

The Sustainability Rating is a portfolio-based, not performance-based, metric

to help investors choose sustainable investments. It should be used in

conjunction with other metrics, such as risk, investment style, and an

assessment of the portfolio manager’s process and how well it has been

executed over time.

Investors may use the Rating:

• To learn how well an existing portfolio is doing on sustainability

• To assess how well an intentional sustainable fund is living up to its mandate

• To set a sustainability threshold for funds, as part of fund-selection criteria

• To ask questions of asset managers about their ESG process

• To report to clients on the sustainability performance of their portfolio

• To expand the universe of funds acceptable to a sustainable investor

• To build portfolios of sustainable investments

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Sustainable/Responsible Funds: Through a Sustainability Lens

45.0%

35.0%

16.0%

1.0% 3.0%

10.0%

22.5%

35.0%

22.5%

10.0%

-5.0%

5.0%

15.0%

25.0%

35.0%

45.0%

Score: 5Label: High

4Above Average

3Average

2Below Average

1Low

U.S. sustainability mandate

N=106 Data as of 1/31/16

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Gold Rated Active Funds: Through a Sustainability Lens

16.0%

26.0%

35.0%

19.0%

4.0%

10.0%

22.5%

35.0%

22.5%

10.0%

0.0%

10.0%

20.0%

30.0%

40.0%

Score: 5Label: High

4Above Average

3Average

2Below Average

1Low

Analyst rating of Gold

Morningstar analyst rating of Gold, globally, active funds only (n=114), as of 2/29/16

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In Summary

Sustainable Investing is values-based, value-driven, and impact-oriented

Investors care about it more and more, from institutional investors to mainstream investors, especially those just starting to accumulate wealth

Our rating will help investors think about sustainability and how they wish to see it reflected in their investments