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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 as
markets are shaken in the wake of climate change and a global pandemic. However, catering towards
sustainability preferences can be complicated and time-consuming. Using AI-driven portfolio
optimisation can help advisors to factor in a myriad of sustainable preferences effortlessly.

SRI is experiencing an exponential rise
Client interest in socially responsible investing (SRI) has been booming lately, with CNBC reporting that
despite the market turmoil caused by the global pandemic, sustainability-focused funds attracted a record
amount of capital in the first quarter of 2020. As SRI becomes more and more mainstream, advisors and
wealth managers need to keep up with the growing demand to focus portfolios, partially, if not entirely, on
sustainable funds and investments.

Despite regulations such as the EU Disclosure Regulation 2019/2088 that introduces disclosure requirements
regarding sustainability in the financial services sector, advisors may find it difficult to cater to sustainable
portfolios. Not only do they have to navigate complex terminology, but simply being assured of what is and is
not sustainable can be a complicated task. According to a recent Morningstar panel, advisors feel challenged
in the realm of sustainable investments, with many not feeling comfortable enough to have such a conversation
with clients.

Furthermore, current regulations merely require advisors to ask if clients have sustainability preferences. In the
future, this will become much more granular, with clients expressing a desire for specific considerations such
as green technology to be included in their portfolios. This is something we wish to further develop: the ability
to construct an ideal portfolio that can cover all specific client preferences.

AI-driven portfolio optimisers can efficiently tackle ESG preferences
Incorporating 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 client
preferences, which are measured as fitness factors, for various criteria. Here, fitness factor is a functionality of
the Privé optimiser AI GO that is used to evaluate the quality of a specific preference. The aggregation of all
fitness factors for each client preference results in the total fitness score of a portfolio. Different fitness factors
are used to help define the objectives of the investor and hence the optimization process based on these
client’s preferences.

Fitness factors can cover financial key figures such as a return or sharpe ratio goal, a volatility cap, as well as
asset classes, FX preferences and many more. Advisors or Portfolio Managers can define preferences and
assign weights to the factors that are important to the client. This is also a key element of the INFINITECH
project, which has set out to create solutions that can integrate as many client requirements as possible within
investment advisory processes.

Recently, Privé started a collaboration with a leading insurance company on an end-to-end advisory process
that utilises parts of Privé´s AI-driven portfolio construction framework. By using the clients’ ESG definitions, it
is possible there to incorporate sustainability as a key fitness factor. ESG largely refers to three dimensions of
sustainability, namely: Environment, Social, and Governance. Investments made with ESG in mind have to be
ecologically neutral or beneficial, be ethical or improve living conditions, and the company itself has to adhere
to strict ecological and ethical guidelines. In the optimiser’s fund universe, all funds are tagged and filtered
according to their sustainability. Here, sustainability can be determined either by the asset manager or from
external data providers. The optimiser allows users to select the percentage weighting of the desired ESG
compliance or sustainability grade of a portfolio proposal, and the fitness factor ensures that the desired
weighting for ESG compatible investments in the portfolio is reached.

Hyper-personalisation is the future
However, simply allowing clients to select sustainable options is not enough. Hyper-personalisation is an
emerging 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 evolve
into clients being able to choose which SRI path they wish to pursue, be it excluding fossil fuels or nuclear
energy entirely from the portfolio, or avoiding companies and funds with a history of child exploitation or
modern 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 line
with the United Nations’ 17 Sustainable Development Goals. These subfactors will, in the future, be
incorporated into Privé´s AI-driven optimiser to further bolster our original framework based on further
customer 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 and
encourage both advisors and clients to pursue SRI. With sustainability a topic that will increase in popularity as
the climate change discussion intensifies and becomes more result-driven, the wealth management sector
must 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.

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