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Using AI-driven Portfolio Optimisation to Consider ESG Preferences in Portfolio Creation

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Practising socially responsible investing has become a priority for many clients across the globe asmarkets are shaken in the wake of climate change and a global pandemic. However, catering towardssustainability preferences can be complicated and time-consuming. Using AI-driven portfoliooptimisation can help advisors to factor in a myriad of sustainable preferences effortlessly.SRI is experiencing an exponential riseClient interest in socially responsible investing (SRI) has been booming lately, with CNBC reporting thatdespite the market turmoil caused by the global pandemic, sustainability-focused funds attracted a recordamount of capital in the first quarter of 2020. As SRI becomes more and more mainstream, advisors andwealth managers need to keep up with the growing demand to focus portfolios, partially, if not entirely, onsustainable funds and investments.Despite regulations such as the EU Disclosure Regulation 2019/2088 that introduces disclosure requirementsregarding sustainability in the financial services sector, advisors may find it difficult to cater to sustainableportfolios. Not only do they have to navigate complex terminology, but simply being assured of what is and isnot sustainable can be a complicated task. According to a recent Morningstar panel, advisors feel challengedin the realm of sustainable investments, with many not feeling comfortable enough to have such a conversationwith clients.Furthermore, current regulations merely require advisors to ask if clients have sustainability preferences. In thefuture, this will become much more granular, with clients expressing a desire for specific considerations suchas green technology to be included in their portfolios. This is something we wish to further develop: the abilityto construct an ideal portfolio that can cover all specific client preferences.AI-driven portfolio optimisers can efficiently tackle ESG preferencesIncorporating these factors smoothly into portfolios is where AI-driven portfolio optimisers shine the brightest.Privé has developed an optimiser framework based on genetic algorithms that is able to consider clientpreferences, which are measured as fitness factors, for various criteria. Here, fitness factor is a functionality ofthe Privé optimiser AI GO that is used to evaluate the quality of a specific preference. The aggregation of allfitness factors for each client preference results in the total fitness score of a portfolio. Different fitness factorsare used to help define the objectives of the investor and hence the optimization process based on theseclient’s preferences.Fitness factors can cover financial key figures such as a return or sharpe ratio goal, a volatility cap, as well asasset classes, FX preferences and many more. Advisors or Portfolio Managers can define preferences andassign weights to the factors that are important to the client. This is also a key element of the INFINITECHproject, which has set out to create solutions that can integrate as many client requirements as possible withininvestment advisory processes.Recently, Privé started a collaboration with a leading insurance company on an end-to-end advisory processthat utilises parts of Privé´s AI-driven portfolio construction framework. By using the clients’ ESG definitions, itis possible there to incorporate sustainability as a key fitness factor. ESG largely refers to three dimensions ofsustainability, namely: Environment, Social, and Governance. Investments made with ESG in mind have to beecologically neutral or beneficial, be ethical or improve living conditions, and the company itself has to adhereto strict ecological and ethical guidelines. In the optimiser’s fund universe, all funds are tagged and filteredaccording to their sustainability. Here, sustainability can be determined either by the asset manager or fromexternal data providers. The optimiser allows users to select the percentage weighting of the desired ESGcompliance or sustainability grade of a portfolio proposal, and the fitness factor ensures that the desiredweighting for ESG compatible investments in the portfolio is reached.Hyper-personalisation is the futureHowever, simply allowing clients to select sustainable options is not enough. Hyper-personalisation is anemerging trend in wealth management, with many clients expecting to be able to select, down to the wire,exactly what type of investments are being included in their portfolio. Here at Privé, we expect this to evolveinto clients being able to choose which SRI path they wish to pursue, be it excluding fossil fuels or nuclearenergy entirely from the portfolio, or avoiding companies and funds with a history of child exploitation ormodern slavery.INFINITECH funding has contributed greatly to our efforts in creating the the AI based optimiser framework.Currently, Privé is researching various methods in developing fitness factors with sustainable subtopics in linewith the United Nations’ 17 Sustainable Development Goals. These subfactors will, in the future, beincorporated into Privé´s AI-driven optimiser to further bolster our original framework based on furthercustomer preferences.Managing sustainable and ESG compliant preferences and juggling hyper-personalisation is no easy feat.However, with the help of Privé’s AI-driven optimiser engine, this process can be made virtually effortless andencourage both advisors and clients to pursue SRI. With sustainability a topic that will increase in popularity asthe climate change discussion intensifies and becomes more result-driven, the wealth management sectormust be ready to meet such demand.For more information on how Privé’s wide range of modular solutions can help you and your company transform digitally and streamline processes, please take a look at our website or contact us today.