Archiv der Kategorie: Behaviroral Finance

Biodiversity risks: Researchpost 192

Biodiversity risks illustration by Pixabay by Sergei Belozerov

10x new research regarding ESG disclosure effects, green innovation, food waste reduction, biodiversity models and investments, climate equity risks, AI investment opportunities, listed equity impact, sustainability questionnaires, hedge funds, open-source investment AI (#shows SSRN full paper downloads as of Sept. 5^th, 2024)

Social and ecological research

Competitive disclosure effects: Do ESG disclosure mandates affect the competitive position of public and private firms? by Peter Fiechter, Jörg-Markus Hitz, and Nico Lehmann as of May 23^rd, 2024 (#202): “… we explore economic effects of mandatory ESG disclosure, specifically the impact of these regulations on the competitive position of public and private suppliers in domestic markets. Using granular data on customer-supplier contracts, we find that the staggered adoption of ESG disclosure mandates in different economies around the globe has an economically meaningful impact on competition in these domestic markets, as private suppliers gain contracts at the expense of public suppliers. Our cross-sectional results provide evidence for two non-mutually exclusive mechanisms that help explain this finding: (i) ESG regulated corporate customers shift contracts from public to private suppliers, consistent with a preference for ESG opaque over ESG transparent supply chains, and (ii) adverse price competition effects for treated suppliers due to incremental direct and indirect costs associated with the ESG disclosure mandate. We also show that treatment effects are concentrated in contractual relations with suppliers of low importance to their corporate customers“ (p. 27/28).

Disclosure innovation push: Mandatory Disclosure and Corporate Green Innovation by Brian Bratten, Sung-Yuan (Mark) Cheng, and Tyler Kleppe as of May 29^th, 2024 (#69): “Adopting a difference-in-differences research design surrounding the adoption of state-level greenhouse gas (GHG) emissions disclosure mandates, we find that disclosure mandates are associated with an increase in the quantity of patents related to climate change mitigation/adaptation technologies (i.e., “green innovations”). This increase is stronger among firms with more social investors …. We also document a positive association between GHG emissions disclosure mandates and future environmental performance ratings … However, we find that these mandates are associated with a reduction in future financial performance for some firms, suggesting a potential negative effect on shareholder welfare“ (abstract).

Good food AI: Using Artificial Intelligence To Reduce Food Waste by Yu Nu, Elena Belavina, and Karan Girotra as of June 3^rd, 2024 (#219): “Technology companies … have launched (AI-powered) granular food waste information gathering systems that can easily measure and stratify food waste in an automated manner … The quasi-experimental … implementation at almost 900 commercial kitchens … reduces food waste, on average, by 29% three months post-adoption. … In addition, we estimate that upgrading to the computer-vision-based automatic recognition system induces a further 30% average reduction in food waste level one year post-upgrade“ (p. 38).

Biodiversity risks of models: Assessing Integrated Assessment Models for Building Global Nature-Economy Scenarios by Mathilde Salin, Katie Kedward, and Nepomuk Dunz as of August 22^nd, 2024: “… we review how different ecosystem services, drivers of nature loss, and mitigation policies are represented in global integrated assessment models (Sö: IAM) that incorporate aspects of nature loss. … First, we find that applied global IAMs represent economic dependencies on only a subset of ecosystem services (mostly provisioning services, in particular food and water) and capture selected drivers of biodiversity loss (mainly climate and land use–related). Only a few models represent regulating and maintenance ecosystem services (focusing mainly on pollination and climate) albeit with only partial connections to the economy. … Second, we find that the representation of nature/policy dimensions in applied models is linked to macroeconomic variables by limited and in some cases indirect mechanisms. Important nature-to-economy transmission mechanisms are missing, such as those involving the role of critical ecosystem services to production … and human health and nutrition. … As a result, applied global models are likely to underestimate the economic impacts stemming from nature-related shocks“ (p. 17).

ESG investment research (in: Biodiversity risks)

Biodiversity risks of investments: Biodiversity Risk and Dividend Policy by Md Noman Hossain, Md Rajib Kamal, and Monika K. Rabarison as of Aug. 6^th, 2024 (#33): “… we examine whether the increased corporate awareness of the potential loss of biodiversity affects dividend policy in relation to biodiversity risk. Using ,,, a sample of 26,811 firm-year observations in the United States, we found strong evidence that firms that are exposed to high-biodiversity risk pay lower dividends than those that are less exposed to biodiversity risk. … Additionally, we observe that financially constrained firms experience significantly lower dividend payouts when exposed to biodiversity risk. … The aforementioned negative association is more pronounced for firms with higher … biodiversity scores, and firms that get more public attention about their biodiversity risk“ (p. 32).

Climate equity risks: How Does Climate Risk Affect Global Equity Valuations? A Novel Approach by Ricardo Rebonato, Dherminder Kainth, and Lionel Melin from EDHEC as of July 10^th, 2024: “1. A robust abatement policy, i.e., roughly speaking, a policy consistent with the 2°C Paris-Agreement target, can limit downward equity revaluation to 5-to-10%. 2. Conversely, the correction to global equity valuation can be as large as 40% if abatement remains at historic rates, even in the absence of tipping points. … 3. Tipping points exacerbate equity valuation shocks but are not required for substantial equity losses to be incurred. … 4. When state-dependent discounting is used for valuation, physical damages, even if ‘back-loaded’, are not fully ‘discounted away’, and contribute significantly to the equity valuation“ (p. 6).

Wrong sustainability questions? Explaining the Attitude-Behavior Gap for Sustainable Investors: Open vs. Closed-Ended Questions by Tobias Wekhof as of May 23^rd, 2024 (#39): “We analyzed the attitude-behavior gap in sustainable investing … with open- and closed-ended questions. Our results indicate that open-ended responses have several advantages that can help to narrow the “gap.” Respondents tend to focus on fewer topics, making ranking topics across the entire sample more distinct. The written answers also allowed the expression of topics not included in the closed-ended options. However, respondents would often select a topic among the closed-ended options but not write about it. … the open-ended responses showed a higher predictive power“ (p. 18).

Other investment research

Listed equity impact? Who Clears the Market When Passive Investors Trade? by Marco Sammon and John J. Shim as of April 15^th, 2024 (#832): “Over the past 20 years across all stocks, firms are the largest providers of shares to passive investors on average and on the margin: For every 1 percentage point (pp) change in ownership by index funds, firms take the other side at a rate of 0.64 pp. When restricting to stock-quarters where index funds are net buyers, firms issue at a rate of 0.95 pp. … firms, through adjustments in the supply of shares, are the single-most responsive group to inelastic demand. More than half of the adjustment comes through stock compensation, stock options, and restricted stock units …“ (abstract). My comment: Investing in “responsible” ETFs may therefore have more impact by providing additional capital (like private equity investments) than previously thought.

Hedge fund AI benefits: Generative AI and Asset Management by Jinfei Sheng, Zheng Sun, Baozhong Yang, and Alan Zhang as of April 8^th, 2024 (#236): “… we develop a novel measure of the usage or reliance on generative AI (RAI) of investment companies based on their portfolio holdings and AI-predicted information. We study the adoption and implications of generative AI in hedge funds and 28 other asset management companies. … Hedge fund companies with higher RAI produce superior returns, both unadjusted and risk-adjusted. … we find hedge fund companies generate more returns from using AI-predicted firm-specific information related to firm policies and performance than from macroeconomic and sectorwise information. … Non-hedge fund companies do not produce significant returns. Furthermore, large and more active hedge fund companies adopt the technology early and perform better than others” (p. 28/29). My comment see AI: Wie können nachhaltige AnlegerInnen profitieren? or How can sustainable investors benefit from artificial intelligence?

Free Investment-AI: FinRobot: An Open-Source AI Agent Platform for Financial Applications using Large Language Models by Hongyang (Bruce) Yang et al. as of May 29th, 2024 (#54): “… we introduce FinRobot, a novel open-source AI agent platform supporting multiple financially specialized AI agents, each powered by LLM. Specifically, the platform consists of four major layers: 1) the Financial AI Agents layer that formulates Financial Chain-of-Thought (CoT) by breaking sophisticated financial problems down into logical sequences; 2) the Financial LLM Algorithms layer dynamically configures appropriate model application strategies for specific tasks; 3) the LLMOps and DataOps layer produces accurate models by applying training/finetuning techniques and using task-relevant data; 4) the Multi-source LLM Foundation Models layer that integrates various LLMs and enables the above layers to access them directly. Finally, FinRobot provides hands-on for both professional-grade analysts and laypersons to utilize powerful AI techniques for advanced financial analysis. We open-source FinRobot at https://github. com/AI4Finance-Foundation/FinRobot“ (abstract).

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Werbehinweis (in: Biodiversity risks)

Unterstützen Sie meinen Researchblog, indem Sie in meinen globalen Smallcap-Investmentfonds (siehe FutureVest Equity Sustainable Development Goals R – DE000A2P37T6 – A2P37T) investieren und/oder ihn empfehlen. Der Fonds konzentriert sich auf die UN-Ziele für nachhaltige Entwicklung (aktuell durchschnittlich 93% SDG-vereinbare Umsätze der Portfoliounternehmen: Investment impact) und verwendet separate E-, S- und G-Best-in-Universe-Mindestratings sowie Aktionärsengagement (Investor impact) bei derzeit 29 von 30 Unternehmen (siehe auch My fund).

Capital-weighted Asset Allocation: Researchpost 191

Capital-weighted Asset Allocation Illustration based on Soehnholz ESG und SDG Portfoliobuch page 79

9x new research on ESG disclosure profits, ESG credit risks, environmental versus social scores, developing country ESG, capital weighted asset allocation, asset allocation glidepaths, social media mania, robo advisor tuning, and venture biases (#shows the number of SSRN full paper downloads as of August 29^th, 2024)

ESG investment research

“Good bank” ESG risks: ESG Relevance in Credit Risk of Development Banks by Jan Porenta and Vasja Rant as of August 21^st, 2024 (#12): “… multilateral development banks exhibit elevated ESG risk relevance, primarily stemming from S risk and G risk. The mandate-oriented engagement of multilateral development banks in financing regions and countries marked by challenges such as deficient labor practices, human rights violations, inadequate supply chain oversight, and occasional insolvency issues may accentuate the relevance of social risk. Additionally, risks associated with the rule of law, institutional robustness, regulatory quality, and internal governance challenges could contribute to the heightened governance risk for multilateral development banks“ (p. 24). My comment: Instead of Government bond ETFs I use ETFs for multilateral development bank bonds since several years because they are much better SDG-aligned. Credit and other risks of these bonds have been satisfactory, so far.

Ecological or social? Return trade-offs between environmental and social pillars of ESG scores by Leyla Yusifzada, Igor Loncarski, Gergely Czupy and Helena Naffa as of Aug. 21^st, 2024 (#17): “We analyse the trade-offs between the environmental (E) and social (S) pillars of ESG scores and their implications for equity market performance using data from the MSCI All Country World Index (ACWI) over the period from 2013 to 2022. We find a persistent negative correlation between the E and S scores across most industries. For example, the correlation between E and S scores for the overall sample reached as low as -0.56 in 2018, indicating a significant inverse relationship where firms that excel in environmental performance often lag in social performance and vice versa“ (p. 9). My comment: Since 2016, I require high minimum standards for E, S and G scores at the same time to avoid too negative tradeoffs and I have been happy with the resulting ESG and financial performances

ESG disclosure profits: The Role of Catering Incentives in ESG Disclosure by King Fuei Lee from Schroder Investment Management as of June 12^th, 2024 (#16): “… The study examines 2,207 US-listed firms from 2005-2022, and finds a significant positive relationship between the ESG disclosure premium and firm ESG reporting. Managers respond to prevailing investor demand for ESG data by disclosing more when investors place a stock price premium on companies with high disclosure levels …” (abstract).

Developing ESG deficits: Are Developing Country Firms Facing a Downward Bias in ESG Scores? by Jairaj Gupta, R. Shruti, and Xia Li as of Aug. 26^th, 2024 (#31): “Using panel regression analysis on a comprehensive cross-country sample of 7,904 listed firms from 2002 to 2022 across 50 countries, we find that corporate ESG scores in developing economies are significantly lower – 57% lower for raw ESG scores and 23% lower for standardized ESG scores – than those in developed economies. Further analysis indicates that this disparity is linked to institutional bias and measurement issues within ESG scoring firms, stemming from information asymmetry. Our empirical evidence also suggests that ESG scoring firms can mitigate these information problems by incorporating analyst coverage and experience into their algorithms” (abstract). My comment: Companies in all (including developing) countries can and should provide high (ESG) transparency and then will receive appropriate ratings and ESG investments without such artificial rating adjustments

Other investment research (in: Capital-weighted Asset Allocation)

Capital-weighted Asset Allocation: The Risk and Reward of Investing by Ronald Doeswijk and Laurens Swinkels as of Aug. 28^th,2024 (#283): “This is the first study documenting the historical risks and rewards of the aggregate investor in global financial markets by studying monthly returns. Our sample period runs from January 1970 to December 2022. The breadth of asset classes in this study is unmatched as it basically covers all accessible financial investments of investors across the world. … Despite its diversification across all globally invested assets, the global market portfolio does not have the highest Sharpe ratio compared to the five asset categories over our 53-year sample period. Its Sharpe ratio is only slightly higher than that of equities broad, but lower than that of nongovernment bonds. However, … The stability of the Sharpe ratio over rolling decade samples is substantially greater than that of individual asset categories. In other words, confidence in a positive Sharpe ratio for the global market portfolio over a decade is highest. … If we adjust the average returns by drawdowns instead of volatility, the global market portfolio has the highest reward for risk, and the shortest maximum drawdown period. All of the results above have been measured in U.S. dollars. If we change the measurement currency to one of the nine other major currencies, we observe substantial heterogeneity in the risks and rewards of investing. … Overall, our new monthly data on the global market portfolio suggests that the aggregate investor has experienced considerable wealth losses compared to savers who earn a nominal risk-free interest rate. Such losses are usually recovered within five years, but recovery can take substantially longer“ (p. 20/21). My comment: I use such asset allocations since the start of my own company in 2015. I am still – to my knowledge – the only portfolio provider worldwide using it for all of its allocation portfolios. Overall, my experience is good, see the Das-Soehnholz-ESG-und-SDG-Portfoliobuch.pdf (soehnholzesg.com) and recently Halbjahres-Renditen: Divergierende Nachhaltigkeitsperformances

Slippy asset allocation glidepaths: The Glidepath Confusion by Edward Hoyle from AHL Partners as of March 30^th, 2024 (#127): “The importance of glidepath choice can be overstated. If a pension saver held a balanced portfolio throughout working life, and then at retirement they find that their investment returns are in the left tail of outcomes, it is likely that they would be similarly placed had they chosen an alternative glidepath. Our examination of contrarian strategies confirmed their outperformance on average. As to their tail properties, we find that they are relatively favourable in historical simulations, but less favourable in bootstrapped simulations. This may clear up some apparent disagreement between previous studies. This also lends credence to the intuition that it is risky to be heavily invested in stocks over short horizons. However, this does not mean that stocks investments should be small as retirement approaches. Holding a balanced portfolio throughout working life and retirement seems entirely sensible if the plan is to generate retirement income by decumulation. In these situations no glidepath is needed“ (p. 18).

Social media mania? Social Media and Finance by J. Anthony Cookson, William Mullins, and Marina Niessner as of May 9^th, 2024 (#591): “Social media has become an integral part of the financial information environment, changing the way financial information is produced, consumed and distributed. This article surveys the financial social media literature, distinguishing between research using social media as a lens to shed light on more general financial behavior and research exploring the effects of social media on financial markets. We also review the social media data landscape“ (abstract).

Robo-advisor tuning: In Design and Humans we Trust“? – Drivers of Trust and Advice Discounting for Robo Advice by Claudia Breuer, Wolfgang Breuer, and Thomas Renerken as of April 16^th, 2024 (#38): “We compare the acceptance of advice in the context of robo-advised individual portfolio allocation decisions with respect to the impact of certain layout and questionnaire characteristics as well as the involvement of a human. Our data are based on incentivized experiments. The results show that a more emotional design of the advice software leads to a higher level of advice acceptance, whereas a detailed exploration questionnaire reduces the level of acceptance. The presence of a human influences trust levels significantly positive, but leads to a lower acceptance of advice in total“ (abstract).

Venture biases: Biases influencing venture capitalists’ decision-making: A systematic literature review by Moritz Sachs and Matthias Unbescheiden as of May 9^th,2023 (#44): “In recent years, researchers have demonstrated that venture capitalists are subject to various biases in their decision-making, but a systematic overview was absent. Our literature review revealed that 15 different biases can influence venture capitalist’s investments. For each of these biases, their effect on venture capitalists’ decisionmaking is explained. We contribute to the research on biased start-up investing by detailing the biases and their expected effects on venture capitalists. Our results will be useful for venture capitalists improving their decision-making” (abstract).

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Werbehinweis (in: Capital-weighted Asset Allocation)

Unterstützen Sie meinen Researchblog, indem Sie in meinen globalen Smallcap-Investmentfonds (SFDR Art. 9, siehe FutureVest Equity Sustainable Development Goals R – DE000A2P37T6 – A2P37T) investieren und/oder ihn empfehlen. Der Fonds konzentriert sich auf die UN-Ziele für nachhaltige Entwicklung (SDG: Investment impact) und verwendet separate E-, S- und G-Best-in-Universe-Mindestratings sowie Aktionärsengagement (Investor impact) bei derzeit 29 von 30 Unternehmen: Vgl. My fund.

Sustainability deficits: Researchpost 188

Sustainability deficits picture from Pixabay by Alexas Fotos

11x new research on green jobs, carbon prices, GHG reporting, accountants, ESG disclosures, institutional ESG, Governance returns, kid investments, ETF liquidity, loss aversion and customized investments (# shows SSRN full paper downloads as of August 8^th, 2024)

Social and ecological research

Good green job effects: The Green Future: Labor Market Implications for Men and Women by Naomi-Rose Alexander, Longji Li, Jorge Mondragon, Sahar Priano, and Marina M. Tavares from the International Monetary Fund as of July 25^th, 2024 (#15): “In AEs (Sö: Advanced economies), green jobs are predominantly found among high-skilled workers and cognitive occupations, whereas in EMs, many green jobs are manual positions within the construction sector …. green jobs are disproportionately held by men in both AEs and Ems … Additionally, we observe a green wage premium and narrower gender pay gaps in green jobs … many green jobs are well-positioned to harness the benefits of AI advancements … green jobs with a greater capacity to leverage AI exhibit a reduced gender pay gap” (p. 40/41).

Sustainability deficits (1): Negative carbon price effects: Firms’ heterogeneous (and unintended) investment response to carbon price increases by Anna Matzner and Lea Steininger as of July 29^th, 2024 (#13): “Using balance sheet data of 1.2 million European firms and identified carbon policy shocks, we find that higher carbon prices reduce investment, on average. However, less carbon-intensive firms and sectors reduce their investment relatively more compared to otherwise similar firms after a carbon price tightening shock. Following carbon price tightening, firms in demand-sensitive industries see a relative decrease not only in investment but also in sales, employment and cashflow. Moreover, we find no evidence that higher carbon prices incentivise carbon-intensive firms to produce less emission-intensively. Overall, our results are consistent with theories of the growth-hampering features of carbon price increases and suggest that carbon pricing policy operates as a demand shock“ (abstract).

Sustianbility deficits (2): Corporate carbon deficits: The MSCI Sustainability Institute Net-Zero Tracker from the MSCI Sustainability Institute as of July 2024: “A series of indicators that investors use to guide transition finance … suggest that the world’s listed companies remain largely misaligned with global climate goals … Just over one-fifth (22%) of listed companies have set a decarbonization target that aims to reduce their financially relevant GHG emissions to net-zero by 2050 in line with a science-based pathway, as of May 31, 2024, an increase of eight percentage points from a year earlier … 38% of companies disclosed at least some of their upstream Scope 3 emissions, up eight percentage points from a year earlier, while 28% disclosed at least some of their downstream Scope 3 emissions, up seven percentage points over the same period” (p. 4). My comment: I ask every company within my fund to fully disclose GHG Scope 3 data so that all stakeholders can engage regarding these data.

Sustainability deficits (3): Accountant ESG deficits: ESG Assurance and Comparability of Greenhouse Gas Emission Disclosures by Jenna Burke, Jiali Luo, Zvi Singer, and Jing Zhang as of Aug. 7^th, 2024 (#7): “… a recent rule from the SEC mandates expanded ESG disclosure, including external assurance of reported greenhouse gas (GHG) emissions. …. we … find that companies with ESG assurance report more comparable GHG emissions. Comparability is further enhanced when companies use the same assurance provider and when the provider is more experienced. We also find some evidence that comparability is higher when assurance is provided by consulting and engineering firms than by accounting firms“ (abstract).

ESG investment research (in: Sustainability deficits)

Sustainability deficits (4): No ESG disclosure benefits? Does mandating corporate social and environmental disclosure improve social and environmental performance?: Broad-based evidence regarding the effectiveness of Directive 2014/95/EU by Charl de Villiers, John Dumay, Federica Farneti, Jing Jia, and Zhongtian Li as of July 11^th, 2024 (#33): “The Directive …requires companies that are (i) listed on EU exchanges or have significant operations within the EU; (ii) employing more than 500 people; or (iii) deemed to be public-interest entities; to report their performance on non-financial matters, including environmental issues, social and employee matters, human rights, anti-corruption, and bribery” (p. 1). … “Analysing a cross-country sample from 2009-2020, we find that social and environmental performance has not meaningfully improved since the Directive was enacted, and instead of EU companies increasing their performance more than US companies, there was either no difference (for social performance) or US companies improved more than EU companies (for environmental performance). Thus, the results suggest that the Directive did not have the intended impact on the social and environmental performance of EU companies “ (p. 19). My comment: Is more regulatory pressure required or more stakeholder engagement or both?

Sustainability deficits (5): Institutional ESG deficits: Comparisons of Asset Manager, Asset Owner, and Wealth and Retail Portfolios by Peter Jacobs, Ursula Marchioni, Stefan Poechhacker, Nicolas Werbach, and Andrew Ang from BlackRock as of April 16^th,2024 (#183): “We examine 800 portfolios from European asset managers, asset owners, and wealth/retail managers … The average European institutional portfolio exhibits a total risk hovering between 10 to 11%, with little difference across the average asset manager, asset owner, and wealth/retail portfolios. Equity risk … accounting for almost 90% of the total portfolio risk. Decomposing equity risk further, country-specific tilts are the primary driver of equity risk, contributing approximately half of the overall equity risk. Style factors and sectors represent 35% and 17% of the equity risk, respectively. … the largest style factor exposure is small size. … the average European institution has lower carbon intensities, but perhaps surprisingly lower ESG scores, than the MSCI ACWI benchmark“ (p. 22). My comment: I do not expect significant positive share- and bondholder pressure from these investors. This opens room for more customized investor-driven solutions (see the last research publication of this blog post).

Governance returns: From Crisis to Opportunity: The Impact of ESG Scores and Board Structure on Firms’ Profitability by Luis Seco, Azin Sharifi and Shiva Zamani as of Aug. 6^th, 2024 (#13): “This study … of firms listed in the S&P 500 index from 2016 to 2022 reveals that firms with a higher BSI index (Sö: Board structure index) demonstrate enhanced financial profitability …. Among the ESG components, only the Governance score significantly impacts financial profitability, … whereas Environmental and Social scores do not show a significant direct effect on net profit margins … the positive impact of robust board structures and governance practices is more pronounced in the post-COVID period “ (p. 16/17). My comment: Our study from 2014 revealed similar results, see Fetsun, A. and Söhnholz, D. (2014): A quantitative approach to responsible investment: Using ESG multifactor models to improve equity portfolios, Veritas Investment Arbeitspapier, presented at PRI Academic Network Conference in Montreal, September 23^rd (140227 ESG_Paper_V3 1 (naaim.org))

Other investment research (in: Sustainability deficits)

Kids beat adults: Invest Like for Your Kids: Performance and Implications of Children’s Investment Accounts on Portfolios in Adulthood by Denis Davydov and Jarkko Peltomäki as of April 16^th, 2024 (#78): “… we explore the performance of custodial investment accounts for children and their subsequent impact on portfolio performance in adulthood. We find that children’s investment accounts demonstrate superior performance, boasting an average Sharpe ratio over 35% higher and an annual return three times greater compared to adults’ accounts. Notably, the observed trading activity and account behavior in children’s accounts suggest a preference for passive investment strategies. In addition, the combination of lower volatility and higher returns in children’s accounts may indicate a more effective diversification strategy adopted by parents. … the risk-taking and overall account activity of teenage boys become significantly higher than those of girls, resulting in deteriorated investment performance. … individuals who had investment accounts during childhood consistently demonstrate superior performance compared to their peers who started investing in adulthood” (p. 26/27).

ETF liquidity risk: Passing on the hot potato: the use of ETFs by open-ended funds to manage redemption requests by Lennart Dekker, Luis Molestina Vivar, and Christian Weistroffer as of Aug. 1^st, 2024 (#12): “Investment funds are the largest group of ETF investors in the euro area. Our results … show that investment funds were the most run-prone investor type during the COVID-19 crisis. We then show that ETF selling by open-ended funds during March 2020 was stronger for funds facing larger outflows. … This finding is consistent with funds using ETFs for managing liquidity and raising cash if needed“ (p. 16).

Loss aversion? A meta-analysis of disposition effect experiments by Stephen L. Cheung as of pril 3^rd, 2024 (#53): “This paper reports a meta-analysis of the disposition effect – the reluctance to liquidate losing investments – in three standard experimental environments in which this behaviour is normatively a mistake. … the literature finds that investors are around 10% more willing to sell winning compared to losing assets, despite optimal choice dictating the opposite“ (abstract).

Hyper-managed customized investments? Beyond Active and Passive Investing: The Customization of Finance from the CFA Institute Research Foundation by Marc R. Reinganum and Kenneth A. Blay as of Aug. 6^th, 2024: “…The overwhelming ascendancy of index funds associated within the US Equity Large-Cap Blend category is the exception rather than the rule. … The economics of customizable portfolios, enabled by technology facilitating hyper-managed separate accounts, will yield better outcomes for investors in terms of after-tax returns and alignment with investor attitudes and preferences. … In the future, active and passive investing will coexist but will increasingly take place within hyper-managed separate accounts, where the passive component will be implemented in an unbundled way rather than in a fund to maximize net economic benefits and other objectives. … The next frontier for asset managers and their service providers will be the era of low-cost customization“ (p. 76/77). My comment: See Index- und Nachhaltigkeits-Investing 2.0? | CAPinside

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Werbehinweis

Unterstützen Sie meinen Researchblog, indem Sie in meinen globalen Smallcap-Investmentfonds (SFDR Art. 9) investieren und/oder ihn empfehlen. Der Fonds konzentriert sich auf die Ziele für nachhaltige Entwicklung (SDG: Investment impact) und verwendet separate E-, S- und G-Best-in-Universe-Mindestratings sowie ein breites Aktionärsengagement (Investor impact) bei derzeit 29 von 30 Unternehmen: Vgl. My fund.

AI pollution: Researchpost 185

AI pollution: Illustration from Pixabay by Gerd Altmann

AI pollution: 11x new research on varying environmental concerns, green investment market and growth, equity climate risk, AI for climate adaptation and AI pollution, ESG surveys, SDG scores and benefits of green corporate and government bonds (#shows SSRN downloads as of July 18^th, 2024)

Ecoological and social research

Environmental concerns: “The development of global environmental concern during the last three decades by Axel Franzen and Sebastian Bahr as of July 10^th, 2024 (#9): “… the average level of countries` environmental concern first decreased until 2010 but recovered in 2020 to the level observed in 1993. … Countries with higher GDP per capita tend to rank higher in terms of environmental concern. At the individual level, environmental concern is closely related to education, post-materialistic values, political attitudes, and individuals’ trust in the news media and in science” (p. 8).

Broad green market: Investing in the green economy 2024 – Growing in a fractured landscape by Lily Dai, Lee Clements, Alan Meng, Beth Schuck, Jaakko Kooroshy from LSEG as of July 9^th, 2024: “The global green economy, a market providing climate and environmental solutions, … In 2023 it made a strong recovery from a sharp decline in 2022, with its market capitalisation reaching US$7.2 trillion in Q1 2024. However, headwinds remain, such as overcapacity issues and trade barriers related to renewable energy equipment and electric vehicle (EV) manufacturing. … Despite market volatility and increasingly complex geopolitical risks …, the green economy is expanding. Its long-term growth (10-year CAGR of 13.8%) outpaces the broader listed equities market. … Energy Efficiency has been by far the best-performing green sector, as well as the largest (46% of the green economy and 30% of the proceeds from green bonds), covering, for example, efficient IT equipment and green buildings. … Almost all industries generate green revenues. Technology is by far the largest sector (US$2.3 trillion of market capitalisation) and Automobiles has the highest green penetration rate (42%). … Newly issued green bonds now account for around 6% of the total bond offerings each year … meanwhile carbon-intensive bond issuance is approximately 2.5 times higher than green bond issuance each year. … Tech giants are concerned with their increasingly significant energy consumption and environmental footprints and are becoming the largest buyers of renewable energy. … energy-efficiency improvement, which is another area of potentially rapid growth, is needed in areas including chips and servers, cooling systems, hyperscale data centres and energy-demand management” (p. 4/5).

ESG investment research (in: AI pollution)

Green investment growth potential: Household Climate Finance: Theory and Survey Data on Safe and Risky Green Assets by Shifrah Aron-Dine, Johannes Beutel, Monika Piazzesi, and Martin Schneider as of July 1^st, 2024 (#4, for a free download a NBER subscription is required): “This paper studies green investing … using high-quality, representative survey data of German households. We find substantial heterogeneity in green taste for both safe and risky green assets throughout the wealth distribution. Model counterfactuals show nonpecuniary benefits and hedging demands currently make green equity more expensive for firms. Yet, these taste effects are dominated by optimistic expectations about green equity returns, lowering firms‘ cost of green equity to a greenium of 1%. Looking ahead, we … find green equity investment could potentially double when information about green finance spreads across the population” (abstract). My comment: It would be interesting to have a similar studyon social investments which unfortunately are even less common than serious green investments(my approach with listed equities see My fund).

Wrong ESG-questions? Sustainability Preferences: The Role of Beliefs by Rob Bauer, Bin Dong, and Peiran Jiao as of July 12^th, 2024 (#97): “In this study, we formally investigate index fund investors’ return expectations towards ESG funds … Our methodologies encompass both the widely used unincentivized Likert scale questions and the incentivized Exchangeability and Choice Matching Methods. … Utilizing unincentivized Likert scale methods, we observe that a majority of investors expect that ESG funds financially underperform relative to conventional funds. Conversely, when applying the incentivized … methods, investors report consistent beliefs that are in contrast with their beliefs from the unincentivized Likert scale. What gives us additional confidence is that our incentivized methods elicit beliefs closer to investors’ true belief is that these beliefs also have a significant and meaningful impact on investors’ allocation choices. … the significant influence of investors’ return expectations on their allocation to SRIs underscores the importance of financial motivations in investment decisions related to SRIs. Therefore, return expectations play an important role in investors’ decisions involving SRI“ (p. 26 and 28).

Equity climate risk: How Does Climate Risk Affect Global Equity Valuations? A Novel Approach by Riccardo Rebonato, Dherminder Kainth, and Lionel Meli from EDHEC as of July 2024: “1. A robust abatement policy, i.e., roughly speaking, a policy consistent with the 2°C Paris-Agreement target, can limit downward equity revaluation to 5-to-10%. 2. Conversely, the correction to global equity valuation can be as large as 40% if abatement remains at historic rates, even in the absence of tipping points. … 3. Tipping points exacerbate equity valuation shocks but are not required for substantial equity losses to be incurred” (p. 6).

Equity climate risk return effects: The Effects of Physical and Transition Climate Risk on Stock Markets: Some Multi-Country Evidence by Marina Albanese, Guglielmo Maria Caporale, Ida Colella, and Nicola Spagnolo as of July 3^rd, 2024 (#20): “This paper examines the impact of transition and physical climate risk on stock markets … for 48 countries from 2007 to 2023 … The results suggest a positive impact of transition risk on stock returns and a negative one of physical risk, especially in the short term. Further, while physical risk appears to have an immediate impact, transition risk is shown to affect stock markets also over a longer time horizon. Finally, national climate policies seem to be more effective when implemented within a supranational framework as in the case of the EU-28“ (abstract).

Adaptation AI: Harnessing AI to assess corporate adaptation plans on alignment with climate adaptation and resilience goals by Roberto Spacey Martín, Nicola Ranger, Tobias Schimanski, and Markus Leippold as of July 2^nd, 2024 (#293): “We build on established sustainability disclosure frameworks and propose a new Adaptation Alignment Assessment Framework (A3F) to analyse corporate adaptation and resilience progress. We combine the framework with a natural language processing model and provide an example application to the Nature Action 100 companies. The pilot application demonstrates that corporate reporting on climate adaptation and resilience needs to be improved and implies that progress on adaptation alignment is limited. Further, we find that … integration of nature-related risks and dependencies is low“ (abstract). My comment: I miss studies on the experience with AI of ESG “rating” agencies. My data supplier Clarity.ai seems to be rather good in this respect, see Clarity AI named a leader in Forrester Wave ESG 2024 – Clarity AI

AI pollution: AI and environmental sustainability: how to govern an ambivalent relationship by Federica Lucivero as of March 12^th, 2024 (#23): “While AITs hold promise in optimizing supply chains, circular economies, and renewable energy, they also contribute to significant environmental costs …. The concept of „digital pollution“ emphasizes the physical and ecological impacts of AI infrastructures, data storage, resource consumption, and toxic emissions. … “ (abstract).

Impact investment research (in: AI pollution)

Stable SDG scores? Sustainability Matters: Company SDG Scores Need Not Have Size, Location, and ESG Disclosure Biases by Lewei He, Harald Lohre and Jan Anton van Zanten from Robeco as of July 11^th, 2024 (#65): “We investigate whether SDG scores, which evaluate companies’ alignment with the 17 UN Sustainable Development Goals, exhibit similar biases that affect ESG ratings. Specifically, we document that SDG scores need not be influenced by size, location, and disclosure biases” (abstract). My comment: SDG-scores typically include very similar information as ESG scores. It would be interesting to investigate the value add of SDG-scores to ESG-scores. I prefer SDG-revenues as indicators for SDG-alignment.

Green impact: Greenness Demand For US Corporate Bonds by Rainer Jankowitsch, Alexander Pasler, Patrick Weiss, and Josef Zechner as of July 11^th, 2024 (#26): “We document that institutional investors have a positive demand for greener assets. … In particular, the Paris Agreement signed at COP21 is accompanied by the highest greenness demand, and the US withdrawal from the same policy is associated with a significant decrease in greenness demand. … Bonds of firms with high environmental performance have, on average, significantly lower yields due to greenness demand, and vice versa for brown bonds. Furthermore, our findings reveal that insurance companies, with their consistent positive greenness demand, significantly drive these valuation effects. … Our counterfactual analyses allow us to quantify both the losses browner portfolios experience and the benefits for investors with a positive greenness tilt. These results point to the potential regulatory risks faced by investors due to uncertain future policies … firms can derive significant yield reductions from improving their environmental performance. These benefits are larger for the brownest firms, and the benefits rise with greenness demand across the environmental spectrum. Despite this fact, we only find evidence that green firms react to changes in demand by improving their greenness in periods following high greenness demand, whereas brown firms do not. … we also show that green firms react to higher greenness demand by raising more capital via corporate bonds than their brown counterparts, as the former issue bonds more frequently and choose higher face values“ (p. 43/44). My comment: My approach of investing only in the companies with very good ESG-scores (see e.g. SDG-Investmentbeispiel 5) seems to be OK

Green catalysts: Sovereign Green Bonds: A Catalyst for Sustainable Debt Market Development? by Gong Cheng, Torsten Ehlers, Frank Packer, and Yanzhe Xiao from the International Monetary Fund as of July 12^th, 2024 (#12): “… the sovereign (debt issuance, Sö) debut is associated with an increase in the number and the volume of corporate green bond issues. The stricter a country’s climate policy or the less vulnerable the country is to climate risks, the stronger this catalytic effect of its sovereign debut. … sovereign issuers entering the green and labelled bond market promote best practice in terms of green verification and reporting, inducing corporate issuers to follow suit. … The debut is a distinctive event for the liquidity and pricing of corporate green bonds; it increases liquidity and diminishes yield spreads in the corporate green bond markets. The same impact is not observed for subsequent sovereign green bond issues after the debut. Our empirical study shows that sovereigns’ entry into the sustainable bond market can spur corporate sustainable bond market development, even when sovereigns are latecomers to the markets. Sovereigns entering the sustainable bond market help to stimulate more growth in private sustainable bond markets as well as improve market liquidity and pricing. We also see scope for sovereign issuers to improve further market transparency, in line with the recommendations of NGFS (2022). Some jurisdictions have introduced supervisory schemes for green verification providers. To standardise or make mandatory impact reporting is another important step that might be considered in future regimes“ (p. 19). My comment: Currently, I only use bonds of multilateral development banks instead of government bonds for ETF allocation portfolios. But this research shows that giving money to Governments which do strange things from a sustainability perspective (= all) may be OK if green/social/sustainable bonds are used.

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ESG audits: Researchpost 181

ESG audits illustration by xdfolio from Pixabay

ESG audits: 9x new research on migration, floods, biodiversity risks, credit risks, ESG assurance, share loans, LLM financial advice, mental models and gender investing (# shows number of SSRN full paper downloads as of June 20^th, 2024).

Social and ecological research

Complementary migrants: Do Migrants Displace Native-Born Workers on the Labour Market? The Impact of Workers‘ Origin by Valentine Fays, Benoît Mahy, and François Rycx as of April 9^th, 2024 (#34): “… native-born people with both parents born in the host country (referred to as ‘natives’) and native-born people with at least one parent born abroad (referred to as ‘2nd-generation migrants’) … Our benchmark results … show that the relationship between 1stgeneration migrants, on the one hand, and natives and 2nd-generation migrants, on the other hand, is statistically significant and positive, suggesting that there is a complementarity in the hirings or firing of these different categories of workers in Belgium … tests support the hypothesis of complementarity between 1st-generation migrants on the one hand, and native and 2nd-generation migrant workers on the other. … complementarity is reinforced when workers have the same (high or low) level of education and when 1st-generation migrant workers come from developed countries” (p. 22/23).

ESG investment research (in: ESG audits)

Corporate flood risk: Floods and firms: vulnerabilities and resilience to natural disasters in Europe by Serena Fatica, Gábor Kátay and Michela Rancan as of April 16^th, 2024 (#76): “…. we investigate the dynamic impacts of flood events on European manufacturing firms during the 2007-2018 period. … We find that water damages have a significant and persistent adverse effect on firm-level outcomes, and may endanger firm survival, as firms exposed to water damages are on average less likely to remain active. In the year after the event, an average flood deteriorates firms’ assets by about 2% and their sales by about 3%, without clear signs of full recovery even after 8 years. While adjusting more sluggishly, employment follows a similar pattern, experiencing a contraction for the same number of years at least. “ (p. 35).

Too green? Impact of ESG on Corporate Credit Risk by Rupali Vashisht as of May 30th, 2024 (#23): “… improvements in ESG ratings lead to lower spreads due to the risk mitigation effect for brown firms. On the other hand, for green firms, ESG rating upgrades lead to higher spreads. Next, E pillar is the strongest pillar in determining the bond spreads of brown firms. All pillars E, S, and G pillars are important determinants of bond spreads for green firms. Lastly, improvements in ESG ratings are heterogeneous across quantiles“ (abstract). “… “findings in the recent literature substantiate the results of this paper by providing evidence that green companies are deemed safe by investors and that any efforts towards improving ESG performance may be considered wasteful and therefore, penalized” (p. 47). My comment: In may experience, even companies with good ESG ratings can improve their sustainability significantly. Investors should encourage that through stakeholder engagement. My approach see Shareholder engagement: 21 science based theses and an action plan – (prof-soehnholz.com) or my engagement policy here Nachhaltigkeitsinvestmentpolitik_der_Soehnholz_Asset_Management_GmbH

Independent ESG audits: Scrutinizing ESG Assurance through the Lens of Reporting by Cai Chen as of June 7^th, 2024 (#33): “… I examine three reporting properties (materiality, verifiability, and objectivity) relevant to the objectives of ESG assurance (Söhnholz: independent verification) across an international sample. I document positive associations between ESG assurance and all three reporting properties … These associations strengthen with assurers’ greater industry experience, companies’ ESG-linked compensation, and companies’ high negative ESG exposure” (abstract).

Biodiversity ESG audits: Pricing Firms’ Biodiversity Risk Exposure: Empirical Evidence from Audit Fees by Tobias Steindl, Stephan Küster, and Sven Hartlieb as of as of May 14th, 2024 (#73): “… we find that biodiversity risk is associated with higher audit fees for a large sample of listed U.S. firms. Further tests reveal that auditors do not increase their audit efforts due to firms’ higher biodiversity risk exposure but rather charge an audit fee risk premium. We also find that this audit fee risk premium is only charged (i) by auditors located in counties with high environmental awareness, and (ii) if the general public’s attention to biodiversity is high“ (abstract).

Other investment research (in: ESG audits)

Share loaning: Long-term value versus short-term profits: When do index funds recall loaned shares for voting? by Haoyi (Leslie) Luo and Zijin (Vivian) Xu as of May 22^nd, 2024 (#20): “… we analyze the share recall behavior of index funds during proxy voting and investigate the implications for voting outcomes. … We find that higher index ownership is more likely associated with share recall, particularly in the presence of higher institutional ownership, lower past return performance, smaller firms, and more shares held by younger fund families with higher turnover ratios or higher management fees. … a higher recall prior to the record date is associated with fewer votes for a proposal if opposed by ISS“ (p. 29). My comment: ETF-selectors should discuss if loaning shares is positive or negative.

AI financial advice: Using large language models for financial advice by Christian Fieberg, Lars Hornuf and David J. Streich as of May 31st, 2024 (#162): “…. we elicit portfolio recommendations from 32 LLMs for 64 investor profiles differing with respect to their risk tolerance and capacity, home country, sustainability preferences, gender, and investment experience. To assess the quality of the recommendations, we investigate the implementability, exposure, and historical performance of these portfolios. We find that LLMs are generally capable of generating financial advice as the recommendations can in fact be implemented, take into account investor circumstances when determining exposure to markets and risk, and display historical performance in line with the risks assumed. We further find that foundation models are better suited to provide financial advice than fine-tuned models and that larger models are better suited to provide financial advice than smaller models. … We find no difference in performance for either of the model features. Based on these results, we discuss the potential application of LLMs in the financial advice context“ (abstract).

Mental constraints? Mental Models in Financial Markets: How Do Experts Reason about the Pricing of Climate Risk? by Rob Bauer, Katrin Gödker, Paul Smeets, and Florian Zimmermann as of June 3^rd, 2024 (#175): “We investigate financial experts’ beliefs about climate risk pricing and analyze how those beliefs influence stock return expectations. … most experts share the view that climate risks are insufficiently reflected in stock prices, yet they hold heterogeneous beliefs about the source and persistence of the mispricing. … Differences in experts’ mental models explain variation in return expectations in the short-term (1-year) and long-term (10-year). Furthermore, we document that experts’ political leanings and geography determine the type of mental model they hold” (abstract).

Gender investments: Gender effects in intra-couple investment decision-making: risk attitude and risk and return expectations by Jan-Christian Fey, Carolin E. Hoeltken, and Martin Weber as of Nov. 29^th, 2023 (#147): “Using representative data on German households … we show that the relation between gender, risk attitudes (both in general and financial matters) and risky investment is much more complex than prior literature has acknowledged. … This analysis has shown that risk-loving, wife-headed households seem to have a less optimistic risk and return assessment than their husband-headed counterparts. Overall, 40 percent of the 10.57 percentage point gap in capital market participation potentially arises from a less favourable view on investment Sharpe ratios taken by female financial heads. … General risk attitudes are our preferred measure of innate risk attitudes since the financial risk attitude question can easily be contaminated by financial constraints, and understood by survey participants as a question of their capacity to take risks rather than their willingness“ (p. 42/43).

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Financial health: Researchpost #177

Financial health: Illustration from Riad Tchakou from Pixabay

9x new research on financial health, startups, circular economy, family firms, green revenues, green bonds, green CAPM, and index funds (# shows SSRN full paper downloads as of May 23^rd, 2024)

Social and ecological research: Financial health and more

Financial health 1: Connecting Mental and Financial Wellbeing – Insights for Employers by Surya Kolluri, Emily Watson and High Lantern Group as of May15th,2024 (#29): “Financial health is deeply intertwined with mental health. Financial stresses, such as debt, significantly contribute to mental health challenges. This stress affects personal wellbeing and has profound implications on workplace productivity and employee engagement, affecting personal relationships, work performance, and overall wellbeing. Additionally, poor mental health also hinders effective decision-making by impairing the cognitive capacity crucial for evaluating financial options and risks which can lead to impulsive spending, poor financial planning, and increased vulnerability to stressinduced short-term financial decisions. By providing integrated education and support, employers play a crucial role in positively addressing the mutually reinforcing financial and mental health relationship” (p. 2).

Financial health 2: New insights into improving financial well-being by Jennifer Coats and Vickie Bajtelsmit as of May 1^st, 2024 (#25): “Individual discount rates, risk preferences, and financial self-confidence consistently contribute to different indicators of FWB (Sö: Financial well-being). In particular, we find significant evidence that both the discount rate and self-confidence in financial decision-making have strong impacts on the dimensions of FWB. Financial literacy has an important moderating role in relation to these two drivers and to income. Personality traits, such as conscientiousness and neuroticism are influential in alternative ways across models” (abstract). … “The most important contribution of this study is the finding that individual discount rates play such an important role in determining composite financial well-being … Financial literacy appears to be necessary but not sufficient to enhance FWB. In particular, if individuals lack the confidence and/or patience to make sound financial decisions, the influence of financial literacy on FWB is limited” (p. 30).

Startup-migration: The Startup Performance Disadvantage(s) in Europe: Evidence from Startups Migrating to the U.S. by Stefan Weik as off Sept. 27^th, 2023 (#202): “This paper explores the main drawbacks of the European startup ecosystem using a new dataset on European startups moving to the U.S. … Empirical evidence shows that startups moving to the U.S. receive much more capital, produce slightly more innovation, and are grow much bigger before exit than startups staying in Europe. More surprisingly, I find that U.S. migrants do not increase their revenues for many years after migration, instead incur higher financial losses throughout, and do not significantly improve their likelihood of achieving an IPO or successful exit. Additional evidence shows that large parts of the innovation, net income loss, and growth difference can be explained by U.S. migrants’ funding advantage. … European startups are only marginally, if at all, hindered by technology, product, and exit markets, but that the main disadvantage is the VC financing market“ (p. 24/25).

Full circle? The Circular Economy by Don Fullerton as of May 16^th, 2024 (#47): “Research about the circular economy is dominated by engineers, architects, and social scientists in fields other than economics. The concepts they study can be useful in economic models of policies – to reduce virgin materials extraction, to encourage green design, and to make better use of products in ways that reduce waste. This essay attempts to discuss circular economy in economists’ language about market failures, distributional equity, and policies that can raise economic welfare by making the appropriate tradeoffs between fixing those market failures and achieving other social goals” (p. 15).

ESG investment research (in: “Financial health”)

Green families: Family-Controlled Firms and Environmental Sustainability: All Bite and No Bark by Alexander Dyck, Karl V. Lins, Lukas Roth, Mitch Towner, and Hannes F. Wagner as of May15th, 2024 (#11): “We find that family-controlled firms have carbon emissions that are indistinguishable from those of widely held firms. … Further, we find that family-controlled firms have significantly lower carbon emissions than widely held firms in countries where a government has not taken significant climate actions and there is thus a substantial risk of policy tightening in the future. … Our paper also finds that, relative to widely held firms, family-controlled firms are significantly less likely to disclose and perform well against the myriad qualitative metrics that comprise a large component of ESG rating agency scores …” (p. 26/27). My comment: With more supply chain transparence ESG-ratings of public and privately held suppliers will become much more important, see Supplier engagement – Opinion post #211 – Responsible Investment Research Blog (prof-soehnholz.com)

Green institutional benefits: In the Pursuit of Greenness: Drivers and Consequences of Green Corporate Revenues by Ugur Lel as of May 19^th, 2024 (#142): “Firms are increasingly turning to green products and services in recent years …Drawing on an extensive dataset spanning from 2008 to 2023 across 49 countries, … I find that foreign institutional ownership, especially from countries with rigorous environmental regulations and norms, significantly boosts green revenue intensity. … These effects are mostly present in carbon-intensive firms …. I also observe a significant increase in green revenues following the implementation of EU Green Deal, accompanied by improvements in CO2 emissions and other environmental policies. There is also an immediate effect of green revenues on profit margins but only for firms in clean industries” (p. 26/27).

Green reputation pays: The reputation effect of green bond issuance and its impact on the cost of capital by Aleksandar Petreski, Dorothea Schäfer, and Andreas Stephan as of Nov. 19^th, 2023 (#61): “This study provides a deeper understanding of the mechanism behind the established negative relationship between green bond issuances and financing costs. The paper hypothesized that this negative relationship can be explained by reputation effects that arise from repeated green bond issuances. … The econometric results … using Swedish real estate firms confirm that it is not the occasional issuance of green bonds but the repeated green bond issuance that reduces the firm’s cost of capital. This effect is also found for the cost of equity. … Additional econometric results confirm the effect of green-bond issuance on reputation using ESG scores as a reputation proxy variable. We find that all aspects of the ESG composite score—environmental, social, and governance pillars—are positively affected by a long track record of green bond issuance, whereas only the governance pillar of ESG is positively affected by a long track record of non-green issuance“ (p. 18).

ESG investment model: Modelling Sustainable Investing in the CAPM by Thorsten Hens and Ester Trutwin as of April 22^nd, 2024 (#202): “We relate to existing studies and use a parsimonious Capital Asset Pricing Model (CAPM) in which we model different aspects of sustainable investing. The basic reasoning of the CAPM, that investors need to be compensated for the bad aspects of assets applies so that investors demand higher returns for investments that are harmful from an environmental, social, and governance (ESG) perspective. Moreover, if investors have heterogeneous views on the ESG–characteristics of a company, the market requires higher returns for that company, provided richer investors care more about ESG than poorer investors, which is known as the Environmental Kuznets Curve (EKC). Besides the effect on asset prices, we find that sustainable investing has an impact on a firm’s production decision through two channels – the growth and the reform channel. Sustainable investment reduces the size of dirty firms through the growth channel and makes firms cleaner through the reform channel. We illustrate the magnitude of these effects with numerical examples calibrated to real–world data, providing a clear indication of the high economic relevance of the effects” (abstract).

Traditional investment research

Smart investors: Is Money in Index Funds Smart? by Jeffrey A. Busse, Kiseo Chung, and Badrinath Kottimukkalur as of Jan. 17^th, 2024 (#157): “Passive funds with inflows generate positive risk-adjusted returns during the subsequent year and outperform funds with outflows, consistent with the notion that index fund money is “smart.” Similar outperformance during the next year is not present in active funds seeing higher inflows. Passive funds that outperform see high inflows even though their performance does not persist after accounting for size, value, and momentum. These findings suggest that the “smart money” effect in passive funds reflects genuine investor ability …“ (abstract).

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Unterstützen Sie meinen Researchblog, indem Sie in meinen globalen Small-Cap-Anlagefonds (SFDR Art. 9) investieren und/oder ihn empfehlen. Der Fonds mit aktuell sehr positiver Performance konzentriert sich auf die Ziele für nachhaltige Entwicklung (SDG: Investment impact) und verwendet separate E-, S- und G-Best-in-Universe-Mindestratings sowie ein breites Aktionärsengagement (Investor impact) bei derzeit 27 von 30 Unternehmen: FutureVest Equity Sustainable Development Goals R – DE000A2P37T6 – A2P37T und My fund – Responsible Investment Research Blog (prof-soehnholz.com)

New gender research: Researchpost 176

New gender research illustration by Mohamed Hassan from Pixabay

New gender research: 16x new research on child labor, child bonus, climate models, green bonds, social returns, supply chain ESG, greenwashing, ESG bonifications, gender index, gender inheritance gap, inflation, investment risks and investment AI (# shows SSRN full paper downloads as of May 16th, 2024)

Social and ecological research in: New gender research

US child labor: (Hidden) In Plain Sight: Migrant Child Labor and the New Economy of Exploitation by Shefali Milczarek-Desai as of April 18^th, 2024 (#164): “Migrant child labor pervades supply chains for America’s most beloved household goods including Cheerios, Cheetos, Lucky Charms, J. Crew, and Fruit of the Loom. Migrant children, some as young as twelve and thirteen, de-bone chicken sold at Whole Foods, bake rolls found at Walmart and Target, and process milk used in Ben & Jerry’s ice-cream. Most work grueling shifts, including overnight and over twelve-hour days, and some, working in extremely hazardous jobs such as roofing and meat processing, have died or suffered serious, permanent injuries. … many … are unaccompanied minors and have no choice but to work. … this paper charts a multifaceted course that might realistically address the predicament of migrant child workers who are precariously perched at the intersection of migration and labor“ (abstract).

New gender research: Is There Really a Child Penalty in the Long Run? New Evidence from IVF Treatments by Petter Lundborg, Erik Plug, and Astrid Würtz Rasmussen as of May 2^nd, 2024 (#32): “The child penalty has been singled out as one of the primary drivers behind the gender gap in earnings. In this paper, we challenge this notion by estimating the child penalty in the very long run. For this purpose, we rely on … fertility variation among childless couples in Denmark to identify child penalties for up to 25 years after the birth of the first child. … we find that the first child impacts the earnings of women, not men. While the child penalties are sizable shortly after birth, the same penalty fades out, disappears completely after 10 years, and turns into a child premium after 15 years. … we even find that the birth of the first child leads to a small rise in the lifetime earnings of women” (p. 15/16).

New gender research: What Works in Supporting Women-Led Businesses? by Diego Ubfal as of April 30^th, 2024 (#125): “This paper reviews evidence on interventions that can address the constraints faced by growth-oriented, women-led micro, small, and medium-sized enterprises (WMSMEs). … First, evidence of modest average treatment effects and treatment effect heterogeneity across various interventions suggests the need for better targeting and segmentation. Second, women-led firms face multiple constraints, and addressing them requires a package of multiple interventions“ (p. 20).

Climate model risks: The Emperor’s New Climate Scenarios – Limitations and assumptions of commonly used climate-change scenarios in financial services by Sandy Trust, Sanjay Joshi, Tim Lenton, and Jack Oliver as of July 4^th, 2023: “Many climate-scenario models in financial services are significantly underestimating climate risk. … Real-world impacts of climate change, such as the impact of tipping points (both positive and negative, transition and physical-risk related), sea-level rise and involuntary mass migration, are largely excluded from the damage functions of public reference climate-change economic models. Some models implausibly show the hot-house world to be economically positive, whereas others estimate a 65% GDP loss or a 50–60% downside to existing financial assets if climate change is not mitigated, stating these are likely to be conservative estimates. … Carbon budgets may be smaller than anticipated and risks may develop more quickly. … We may have underestimated how quickly the Earth will warm for a given level of emissions, meaning we need to update our expectations as to how quickly risks will emerge. A faster warming planet will drive more severe, acute physical risks, bring forward chronic physical risks, and increase the likelihood of triggering multiple climate tipping points, which collectively act to further accelerate the rate of climate change and the physical risks faced. … Firms naturally begin with regulatory scenarios, but this may lead to herd mentality and ‘hiding behind’ Network for Greening the Financial System (NGFS) thinking, rather than developing an appropriate understanding of climate change. Key model limitations, judgements and choice of assumptions are not widely understood, as evidenced by current disclosures from financial institutions” (p. 6).

ESG investment research

Managed greenium: Determinants of the Greenium by Christoph Sperling, Roland Maximilian Happach, Holger Perlwitz, and Dominik Möst as of May 9^th, 2024 (#23): “Environmental, social and governance (ESG) bonds can benefit from yield discounts compared to their conventional twins, a phenomenon known as the ‚greenium‘. … we examine five observable characteristics of corporate ESG bonds and their conventional twins for statistical differences in primary market yields and derive two overarching determinants from this” (abstract). “… two overarching determinants affecting the occurrence and magnitude of a greenium become apparent: transparent information disclosure and sustainable corporate management. Companies can actively enhance their greenium in the primary market and reduce debt financing costs by communicating clearly about the intended use of proceeds and aligning with ambitious sustainability goals” (p. 28).

Social return effects: Social Premiums by Hoa Briscoe-Tran, Reem Elabd, Iwan Meier, and Valeri Sokolovski as of April 30th, 2024 (#123): “Our analysis illuminates the impact of the S dimension of ESG on future stock returns. We find that the aggregate S score does not affect stock returns. However, the two main components of the S score exert significant, yet opposite, effects on returns. Specifically, higher human capital scores are associated with higher returns, aligning with previous research and suggesting that markets may not fully price in firms’ human capital. Conversely, higher product safety scores are associated with lower average returns, consistent with the risk-based explanation that firms with safer products exhibit safer cash flows, reduced risk, and therefore, lower expected returns” (p. 26). My comment: If social investments have similar returns as other investments, everything speaks for social investments.

ESG purchasing benefits: A Procurement Advantage in Disruptive Times: New Perspectives on ESG Strategy and Firm Performance by Wenting Li and Yimin Wang as of May 5^th, 2024 (#29): “Drawing on the COVID-19 pandemic as a natural experiment, we define a firm’s resilience as its relatively superior financial performance during the pandemic. … The results reveal that increased ESG practices strengthen a firm’s resilience during disruptions: a 1% increase in ESG practice scores leads to a 0.215% increase in firms’ return on assets. We analyze the mechanisms driving this resilience effect and show that improved ESG practices are associated with reduced purchasing costs and higher profitability amid disruptions. … we provide robust evidence that ESG enhances operational congruency with suppliers, which becomes critical in securing a procurement advantage during severe external constraints. Contrary to popular belief, there is little evidence that the ESG improves price premiums during the disruption“ (abstract). My comment: My detailed recommendations for supplier evaluations and supplier engagement see Supplier engagement – Opinion post #211 – Responsible Investment Research Blog (prof-soehnholz.com)

NGOs and Greenwashing: Scrutinizing Corporate Sustainability Claims. Evidence from NGOs’ Greenwashing Allegations and Firms’ Responses by Janja Brendel, Cai Chen, and Thomas Keusch as of April 9^th, 2024 (#107): “We find that advocacy NGOs (Sö: Non-Governmental Organizations) increasingly campaign against greenwashing, targeting predominantly large, publicly visible firms in the consumer-facing and oil and gas industries. These campaigns mostly accuse firms of making misleading or false statements in communication outlets such as product labels, advertisements, and public relations campaigns about companies’ impacts on climate change and consumer health. Shareholders and the media react to NGO campaigns, especially when they allege greenwashing of material environmental or social performance dimensions. Finally, firms facing environment-related greenwashing allegations disclose less environmental information in the future, while companies criticized for climate-related greenwashing reduce future greenhouse gas emissions“ (abstract). My comment see Neues Greenwashing-Research | CAPinside

New gender research: Who Cares about Investing Responsibly? Attitudes and Financial Decisions by Alberto Montagnoli and Karl Taylor as of April 30^th, 2024 (#25): “Using the UK Financial Lives Survey data … our analysis reveals that, firstly, individual characteristics have little explanatory power in terms of explaining responsible investments, except for: education; gender; age; and financial literacy. Secondly, those individuals who are interested in future responsible investments are approximately 7 percentage points more likely to hold shares/ equity, and have around 77% more money invested in financial assets (i.e. just under twice the amount)“ (abstract).

New gender research: Index Inclusion and Corporate Social Performance: Evidence from the MSCI Empowering Women Index by Vikas Mehrotra, Lukas Roth, Yusuke Tsujimoto, and Yupana Wiwattanakantang as of May 14^th, 2024 (#48): “… we focus on the years surrounding the introduction of the MSCI Empowering Women Index (WIN), in which membership is based on a firm’s gender diversity performance in the workforce. … firms ranked close to the index inclusion threshold enhance their proportion of women in the workforce following the WIN inception compared to control firms that are distant from the inclusion threshold. Notably, these improvements are not accompanied by a reduction in male employees, … we observe that the enhancement of women’s representation in the workforce predominantly occurs in management positions, rather than at the rank-and-file positions, which remain largely unchanged. Additionally, there is evidence of a cultural shift within these firms, as indicated by a reduction in overtime and a higher incidence of male employees taking parental leaves in the post-WIN period. Moreover, WIN firms experience an increase in institutional ownership without any discernible decline in firm performance or shareholder value …” (p. 26).

Impact investment research

ESG bonus leeway: ESG & Executive Remuneration in Europe by Marco Dell’Erba and Guido Ferrarini as of May 6^th, 2024 (#160): “… a qualitative and empirical analysis of the ways in which the major 300 largest corporations by market capitalization in Europe (from the FTSEurofirst 300 Index) implement ESG factors in their remuneration policies. … Few metrics are clearly measurable, and there is a general lack of appropriate metrics and targets” (p. 36/37). My comment see Wrong ESG bonus math? Content-Post #188 – Responsible Investment Research Blog (prof-soehnholz.com)

Bank net zero failure: Business as Usual: Bank Net Zero Commitments, Lending, and Engagement by Parinitha (Pari) Sastry, Emil Verner, and David Marques-Ibanez as of April 23rd, 2024 (#876): “This paper is the first attempt to quantify whether banks with a net zero pledge have made meaningful changes to their lending behavior. … we find that net zero lenders have not divested from emissions-intensive firms, in mining or in the sectors for which they have set targets. This holds both for borrowing firms in the eurozone, as well as across the globe. We also find limited evidence that banks reallocate financing towards low-carbon renewables projects within the power generation sector, casting doubt on within-sector portfolio reallocation. Further, we do not find evidence for engagement. Firms connected to a net zero bank are no more likely to set decarbonization targets, nor do they reduce their carbon emissions“ (p. 35).

Other investment research: in New gender research

New gender research: Wealth creators or inheritors? Unpacking the gender wealth gap from bottom to top and young to old by Charlotte Bartels, Eva Sierminska, and Carsten Schroeder as of Apri 28^th, 2024 (#157): Using unique individual level data that oversamples wealthy individuals in Germany in 2019, we find that women and men accumulate wealth differently. Transfer amounts and their timing are an important driver of these differences: men tend to inherit larger sums than women during their working life, which allows them to create more wealth. Women often outlive their male partners and receive larger inheritances in old age. Yet, these transfers come too late in order for them to be used for further accumulation and to start a business. Against this backdrop, the average gender wealth gap underestimates the inequality of opportunity that men and women have during the active, wealth-creating phase of the life course” (p. 7).

Inflation ignorants: Don’t Ignore Inflation Ignorance: An Experimental Analysis of the Degree of Money Illusion in Individual Decision Making by Nicole Branger´, Henning Cordes, and Thomas Langer as of Dec. 30^th, 2024 (#18): “Money illusion refers to the tendency to evaluate economic transactions in nominal rather than real terms. One manifestation of this phenomenon is the tendency to neglect future inflation in intertemporal investment decisions. Empirical evidence for this “inflation ignorance” is hard to establish due to the host of factors that simultaneously change with the inflation rate. … We find money illusion to be substantial – even in experimental settings where the bias cannot be driven by a lack of diligence, arithmetic problems, or misunderstandings of inflation. Our findings contribute to understanding various anomalies on the individual and market level, such as insufficient savings efforts or equity mispricing“ (abstract).

Active risk: Sharpe’s Arithmetic and the Risk Matters Hypothesis by James White, Vladimir Ragulin, and Victor Haghani from Elm Wealth as of Dec. 20^th, 2023 (#140): “… the authors present … the „Risk Matters Hypothesis“ (RMH), which asserts that the average risk-adjusted excess return across all active portfolios will be greater than the risk-adjusted excess return of the market portfolio, before accounting for fees and trading costs” (abstract).

AI for the big guys only? A Walk Through Generative AI & LLMs: Prospects and Challenges by Carlos Salas Najera as of Dec. 20^th, 2023 (#68): “Generative AI has firmly established its presence, and is poised to revolutionise various sectors such as finance. Large Language Models (LLMs) are proving pivotal in this transformation according to their recent impressive performances. However, their widespread integration into industries might only lead to gradual progress. The investment sector faces challenges of inadequate expertise and notably, the substantial costs associated with inhouse model training. Consequently, investment enterprises will confront the choice of leveraging foundational models, customisable variants, or insights from NLP vendors who remain well-versed in the latest advancements of LLMs” (p. 9). My comment: See How can sustainable investors benefit from artificial intelligence? – GITEX Impact

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Werbehinweis

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Biodiversity diversion: Researchpost #165

Biodiversity diversion: 14x new research on donations, brown indices, ESG ETFs, ESG investing fees, greenwashing, labeled bonds, climate engagement, framing, female finance, and risk measurement (“’#” shows full paper SSRN downloads as of Feb. 29^th, 2024).

Social and ecological research

Facebook donations: Does Online Fundraising Increase Charitable Giving? A Nationwide Field Experiment on Facebook by Maja Adena and Anselm Hager as of Feb. 27^th, 2024 (#4): “Using the Facebook advertising tool, we implemented a natural field experiment across Germany, randomly assigning almost 8,000 postal codes to Save the Children fundraising videos or to a pure control. … We found that (i) video fundraising increased donation revenue and frequency to Save the Children during the campaign and in the subsequent five weeks; (ii) the campaign was profitable for the fundraiser; and (iii) the effects were similar independent of video content and impression assignment strategy. However, we also found some crowding out of donations to other similar charities or projects.” (abstract).

Biodiversity diversion (1)? The 30 by 30 biodiversity commitment and financial disclosure: Metrics matter by Daniele Silvestro, Stefano Goria, Ben Groom, Thomas Sterner, and Alexandre Antonelli as of Nov. 23^rd, 2023 (#93): “The recent adoption of the Kunming-Montreal Global Biodiversity Framework commits nearly 200 nations to protect 30% of their land by 2030 – a substantial increase from the current global average of c. 17%. … the easiest approach to reach compliance would be to protect the cheapest areas. … Here we explore biological and financial consequences of area protection … We find substantial differences in performance, with the cheapest solution always being the worst for biodiversity. Corporate disclosure provides a powerful mechanism for supporting conservation but is often dependent on simplistic and underperforming metrics. We show that conservation solutions optimized through artificial intelligence are likely to outperform commonly used biodiversity metrics“ (abstract).

ESG investment research (in: „Biodiversity diversion“)

Biodiversity diversion (2): A Bibliometric and Systemic Literature Review of Biodiversity Finance by Mark C. Hutchinson and Brian Lucey as of Feb. 19^th, 2024 (#140): “This study presents a short bibliometric analysis of biodiversity finance …. Six focal areas emerge, with Conservation, Conservation Finance, and Ecosystem Finance prominent. Thematic emphasis revolves around biodiversity challenges and the inefficiency of financial mechanisms in addressing them. Our analysis reveals an exploitable gap in the lack of finance-led solutions” (abstract).

Brown stock indices: International trade in brown shares and economic development by Harald Benink, Harry Huizinga, Louis Raes, and Lishu Zhang as of Feb. 22^nd, 2024 (#9): “Using global stock ownership data, we find a robust negative relation between the tendency by investors to hold brown assets and economic development as measured by log GDP per capita. … First, at the country level, economic development is likely to lead to a greening of the national stock portfolio. Second, cross-sectionally, richer countries will tend to hold greener portfolios. … Finally, we find that investors in richer countries have a lower propensity to divest from browner firms that are included in the MSCI World index, which does not consider firms’ carbon intensities” (p. 31/32). My comment: Most (institutional) investors use benchmarks. Green benchmarks should be used more often to foster transition (regarding benchmark selection compare Globale Small-Caps: Faire Benchmark für meinen Artikel 9 Fonds? (prof-soehnholz.com).

ESG ETF dispersion: From ESG Confusion to Return Dispersion: Fund Selection Risk is a Material Issue for ESG Investors by Giovanni Bruno and Felix Goltz from Scientific Beta as of Feb. 22^nd, 2024: “… we construct a dataset of Sustainable ETFs – passive ETFs that have explicit ESG objectives. … Overall, our results indicate that ESG investors face a large fund selection risk. Over the full sample dispersion is 6.5% (4.9%) in terms of annualised CAPM Alpha (Industry Adjusted Returns), and it can reach 22.5% (25.3%) over single calendar years. We also show that past performance and tracking error do not contain useful information on future performance. … dispersion in performance allows ETF providers to always present investors some strategy that has recently outperformed“ (p. 31). My comment: It would be nice to have more details in the research article regarding conceptual differences e.g. between ESG Leader, Transition and SRI indics/ETFs, see e.g. Verantwortungsvolle Investments im Vergleich: SRI ETFs sind besser als ESG ETFs (prof-soehnholz.com) from 2018

Good ESG ETFs: Unraveling the Potential: A Comprehensive Analysis of ESG ETFs in Diversified Portfolios across European and U.S. Markets by Andrea Martínez-Salgueiro as of Feb. 15^th, 2024 (#10): “… results indicate substantial benefits of ESG ETFs in Europe and notable hedge, diversification, and safe-haven potential in the U.S. Simulated data further demonstrate ESG portfolios‘ outperformance, especially in Europe, highlighting the risk-return tradeoff” (abstract).

Responsible fees: Responsible Investment Funds Build Consistent Market Presence by Jordan Doyle as of Feb. 21^st, 2024: “… during the study period from 31 December 2012 to 31 December 2022. Total net assets for “responsible investments” as defined by Lipper increased by a factor of 2.7×, from $2,215.6 billion in 2012 to $5,974.6 billion in 2022. The market share of responsible investment funds remained relatively constant during the same period, increasing from 14.2% in 2012 to 15.4% in 2022. … Retail ownership dominates institutional ownership of responsible investment funds globally. In the United States, however, institutional assets surpassed retail assets in 2018, indicating a relative shift in demand preferences. … they both invest more assets into negative screening funds than any other type of responsible investment strategy …fund fees of responsible investing funds are largely in line with those of non-responsible investment fund fees in the United States. In Europe, however, responsible investment fund fees tend to be lower than non-responsible investment fund fees“ ( p. 3).

Unsustainable institutions? Sustainable Finance Disclosure Regulation: voluntary signaling or mandatory disclosure? by Lara Spaans, Jeroen Derwall, Joop Huij, and Kees Koedijk as of Feb. 19^th, 2024 (#38): “… we point out that (i) the SFDR similarly to voluntary disclosure enables funds to signal their sustainability commitments to the market, while (ii) like mandatory disclosure, requires these funds to be transparent about the sustainability outcomes of their underlying portfolio … we show that investors indeed respond to the Article signals, but that this effect is driven by retail investors. … we see that mutual funds that take on an Article 8(/9) label after the SFDR announcement improve their sustainability outcomes compared to Article 6 funds. Specifically, we note that retail funds behave in accordance with their signal, while for institutional funds we do not find that Article 8(/9) funds behave differently from Article 6 funds. We disregard the hypothesis that these institutional funds partake in ‘window-dressing’, instead we find evidence that mandatory disclosure induces European institutional funds to significantly improve their sustainability outcomes compared to untreated, US-domiciled institutional funds“ (p. 32). My comment: For my Article 9 (global smallcap fund) see www.futurevest.fund and My fund (prof-soehnholz.com).

Less greenwashing: Do US Active Mutual Funds Make Good of Their ESG Promises? Evidence from Portfolio Holdings by Massimo Guidolin and Monia Magnani as of Feb. 23^rd, 2024 (#22): “… our findings indicate a distinct shift towards greater sustainability within the mutual equity fund industry. Notably, this trend is not exclusive to self-labelled ESG funds; all types of funds have enhanced their ESG ratings and reduced their investments in sin stocks. The number of self-labelled ESG funds has continued to rise in recent years, and importantly, most of these ESG funds, on average, appear to genuinely adhere to their claims of prioritizing sustainable investing. Consequently, they demonstrate significantly higher actual ESG scores in their portfolio holdings. Moreover, we are witnessing a noticeable reduction in sin stocks within their portfolios“ (p. 34).

SDG- aligned and impact investment research

Sustainable returns: Labeled Bonds: Quarterly Market Overview Q4 2023 by Jakub Malich and Anett Husi from MSCI Research as of Feb. 21^st, 2024: Green, social, sustainability and sustainability-linked “Labeled-bond issuance reached a similar level in 2023 as in 2022, which was notably below the peak issuance of 2021. … The market continued to grow both in size and diversity, as hundreds of new and recurring corporate and government-related issuers brought labeled bonds to the market. … Most newly issued and outstanding labeled bonds were investment-grade and issued by ESG leaders … the performance of labeled bonds, despite their distinctions from conventional bonds, was primarily driven by key fixed-income risk and return drivers, such as interest-rate sensitivity, currency fluctuations and credit risk“ (p. 18). … “Corporate issuers led issuance in the fourth quarter, with USD 75 billion worth of labeled bonds (63% of the total), while supranational, sovereign and agency (SSA) entities issued USD 44 billion (37%). This continues a shift in the labeled-bond market, with corporate issuers taking a more central role” (p. 4).

Index impact: The Impact of Climate Engagement: A Field Experiment by Florian Heeb and Julian F. Kölbel as of Feb. 6^th, 2024 (#361): “A randomly chosen group of 300 out of 1227 international companies received a letter from an index provider, encouraging the company to commit to setting a science-based climate target to remain included in its climate transition benchmark indices. After one year, we observed a significant effect: 21.0% of treated companies have committed, vs. 15.7% in the control group. This suggests that engagement by financial institutions can affect corporate policies when a feasible request is combined with a credible threat of exit” (abstract). My comment: It would be interesting to know the assets of the funds threatening to divest (index funds are often large). Hopefully, this type of shareholder engagement also works for active (and small) asset managers. Further shareholder engagement research see e.g. Shareholder engagement: 21 science based theses and an action plan – (prof-soehnholz.com)

ESG nudging: Optimistic framing increases responsible investment of investment professionals by Dan Daugaard, Danielle Kent, Maroš Servátka, and Lyla Zhang as of Jan. 1zh, 2024 (#33): “… we report insights from an incentivized online experiment with investment professionals … The analyzed sample consists of individuals who stated their intention to increase their investment in ESG within the next 10 years … We demonstrate that framing divestment decisions in a more optimistic orientation, with an emphasis on the transitory nature of costs and the permanency of future benefits, significantly increases responsible investment by 3.6%. With total professionally managed assets valued at USD $98.4 trillion globally, a comparable effect size would represent a USD $3.6 trillion shift in asset allocations” (p. 12).

Other investment research (in: „Biodiversity diversion“)

Gender differences: The Gender Investment Gap: Reasons and Consequences by Alexandra Niessen-Ruenzi and Leah Zimmerer as of Jan. 27^th, 2024 (#31): „ Women, compared to men, report larger financial constraints, higher risk aversion, perceived stress in financial matters, and lower trust in financial institutions. As a result, women save and invest less consistently than men. Conditional on investing, women use fewer financial products, particularly in equity investments. We find a significant gender gap in stock market participation, with 17.6% of women and 32.3% of men investing. The motives and barriers influencing stock market participation also diverge, with men leaning towards short-term gains and the thrill of investing, while women commonly cite unfamiliarity with stocks and fear of potential losses as primary reasons for non-participation” (abstract).

New performance indicator: Maximum Cumulative Underperformance: A New Metric for Active Performance Management by Kevin Khang and Marvin Ertl from The Vanguard Group as of Jan. 18^th, 2024 (#29): “… we define maximum cumulative underperformance (MaxCU)—the maximum underperformance of an active fund relative to the benchmark … The greater the benchmark return environment and the longer the investment horizon, the greater MaxCU investors should expect … Ex-ante, our framework can be used to articulate the investor’s tolerance for underperformance relative to the benchmark and inform the final active allocation decision at the outset. Ex-post, our framework can be used to set the base rate for terminating a manager who has suffered a sizeable underperformance“ (p. 19/20). My comment: Useful concept, but benchmark selection is very important for this approach. For the latter problem see e.g. Globale Small-Caps: Faire Benchmark für meinen Artikel 9 Fonds? (prof-soehnholz.com)

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Diversification myths: Researchpost #159

Diversification myths: 14x new research on ESG and consumption, ESG data, ESG washing, ESG returns, climate risks, voting, divestments, diversification myths, anomalies, trend following, real estate and private equity (# shows number of full paper downloads as of Jan. 18^th, 2024)

Social and ecological research

Low ESG-consumption effect: How Do Consumers Use Firm Disclosure? Evidence from a Randomized Field Experiment by Sinja Leonelli, Maximilian Muhn, Thomas Rauter, and Gurpal Sran as of Jan. 11^th, 2024 (#79): “In a sample of more than 24,000 U.S. households, we first establish several stylized facts: (i) the average consumer has a moderate preference to purchase from ESG-responsible firms; (ii) consumers typically have no preference for more or less profitable firms; (iii) consumers rarely consult ESG reports and virtually never use financial reports to inform their purchase decisions. … Consumers increase their purchase intent when exogenously presented with firm-disclosed positive signals about environmental, social, and—to a lesser extent—governance activities. Full ESG reports only have an impact on consumers who choose to view them, whereas financial reports and earnings information do not have an effect. After the experiment, consumers increase their actual product purchases, but these effects are small, short-lived, and only materialize for viewed ESG reports and positive social signals. … we provide explanations for why consumers (do not) change their shopping behavior after our information experiment“ (abstract).

ESG investment research (Diversification myths)

ESG data criticism: ESG Data Primer: Current Usage & Future Applications by Tifanny Hendratama, David C. Broadstock, and Johan Sulaeman as of Jan. 12^th, 2024 (#66): “ESG data is important, and will become even more so as time progresses. … There remains a prevalent use of combined ESG scores instead of E, S and G specific pillar scores; The use of combined ESG, and pillar specific scores may themselves detract focus away from crucial underlying raw data; Empirical research depends heavily on a small number of ESG data providers; That some data providers focus more on the E than the S – creating a need for data users to make sure the scoring ethos of each provider aligns with their expectations and requirements; There is a potentially material quantity of ESG data inconsistencies which could result in unintended investment allocation” (p. iv). My comment: I use segregated E, S and G ratings since many years and best-in-universe instead of best-in-class ratings

Costly washing: ESG washing: when cheap talk is not cheap! by Najah Attig and Abdlmutaleb Boshanna as of Dec. 26^th, 2023 (#63): “… we introduce an easily replicable ESG washing measure. We then document a robust negative impact of ESG washing on corporate financial performance … we show that the COVID-19 pandemic incentivized firms to engage in increased overselling of their ESG performance. Taken together, our new evidence suggests that ‚cheap talk is not cheap‘ and the misalignment between ‘ESG talk’ and ‘ESG walk’ not only fails to serve shareholders‘ best interests but may also undermine a firm’s social license to operate” (abstract).

Disclosure or performance? The relation between environmental performance and environmental disclosure: A critical review of the performance measures used by Thomas Thijssens as of Jan. 9^th, 2024 (#8): “More extensive disclosures may even be a signal for inferior rather than superior performance in terms of actual environmental impact. This suggestion is fueled by the observations that more polluting industries have on average more extensive ED (Sö: Environmental disclosure) and higher environmental commitment is associated with higher GHG emissions“ (p. 18). My comment: Most other studies known to me show – in general – positive effects of more disclosure

Performance-neutral ESG: Drawing Up the Bill: Is ESG Related to Stock Returns Around the World? by Rómulo Alves, Philipp Krüger, and Mathijs van Dijk as of Jan. 13^th, 2024 (#47): “… our analysis of a comprehensive global database (including 16,000+ stocks in 48 countries and seven different ESG rating providers over 2001-2020) uncovers very little evidence that ESG ratings are related to stock returns around the world. … thus it has been possible to “do good without doing poorly.” Our findings also suggest that the prices of strong ESG stocks have not consistently been driven up, and that, going forward, ESG investors could potentially still benefit from any demand effects resulting in the pricing of ESG preferences. On the flip side, our analysis implies that ESG investing has so far not been effective in reducing (increasing) the cost of equity capital of strong (poor) ESG firms, which could lead firms to internalize climate and social externalities (Fama 2021, Pástor et al. 2021)“ (p. 14). My comment: I could not agree more for the small and midcap companies on which I focus

Huge climate risks: How climate stress test may underestimate financial losses from physical climate risks by a factor of 2-3x by Jakob Thomä from 1 in 1000 and Theia Finance Labs as of Dec. 1^st, 2023: “A high baseline climate risk (i.e. using a climate stress-test model with meaningful baseline GDP losses over the next 30 years) stress-test scenario can create a 10% shock to global equity markets. A combination of climate tipping points, ecosystem decline, and social risks can increase that number as a cumulative risk to 27%, almost 3x the baseline losses. A low baseline scenario of a 4% shock in turn turns into a 14% shock when considering these other factors. These losses are dramatic as they are secular and not cyclical. It is worth flagging that this event would be unprecedented in modern financial market history“ (p. 4). My comment: Thanks to Bernd Spendig for informing me about this study.

Climate risk aversion: Institutionelle Investor:innen und physische Klimarisiken vom Lehrstuhl für Sustainable Finance, Universität Kassel as of September Dec. 17th, 2023: “Approximately 40 percent of the surveyed institutions do not take physical climate risks into account when valuing corporate bonds. In addition, a majority of respondents who already take physical climate risks into account are unsure whether these risks are adequately taken into account. In this regard, Part II reveals that 80% of the surveyed institutional investors believe that physical climate risks are not adequately reflected in the risk premiums of corporate bonds” (abstract).

Impact investing research

Voting deficits: Voting matters 2023 by Abhijay Sood at al from Share Action as of Jan. 11^th, 2024: “In 2023, only 3% of assessed resolutions passed, just eight out of 257 resolutions. This is down from 21% of assessed resolutions in 2021 … In 2023, the ‘big four’ (BlackRock, Vanguard, Fidelity Investments, and State Street Global Advisors) only supported – on average – one eighth of those put forward, a marked drop since 2021 … Eight asset managers with public net zero targets supported fewer than half of all climate resolutions … Three quarters of all shareholder proposals covered in our study asked only for greater corporate disclosure, including those which some asset managers have deemed overly “prescriptive”. The other quarter of resolutions ask for movement in line with globally agreed climate goals or international human rights standards. … Resolutions at financial services companies on fossil fuel financing received the lowest support by asset managers of any climate-related topic” (p. 8-10). My comment: I focus more on direct dialogue (engagement) than voting, see Shareholder engagement: 21 science based theses and an action plan – (prof-soehnholz.com)

Divestment myths: Beyond Divestment by David Whyte as of Jan. 16^th, 2024 (#11): “The top 20 shareholders in both BP and Shell have increased their total number of shares by three quarters of a billion in BP, and half a billion in Shell since the Paris Agreement was signed in 2015. Indeed, although 47% of BP shareholders and 54% of Shell shareholders have reduced their stake, net share ownership overall has risen significantly in both companies. … more than a quarter of the 20 investors who made the most significant reductions in shareholdings in either BP or Shell increased their overall fossil fuel investment. … only 60 institutional investors have sold all of their shares in the two oil firms. This represents 3% of BP and 4% of Shell shareholders“ (abstract).

Other investment research (Diversification myths)

Diversification myths: Diversification Is Not A Free Lunch by Dirk G. Baur as of Jan. 3^rd, 2024 (#56): “We … demonstrate that diversification generally comes at a cost through lower returns and is thus not a free lunch. While the risk of diversified portfolios is clearly lower than that of less diversified or undiversified portfolios, the return is generally also lower. There is only one exception. If the investor is ignorant and picks stocks randomly, diversification is a free lunch. … if diversification is a free lunch, it would violate the fundamental positive risk – return relationship in finance. Specifically, if risk can be reduced without a cost, risk and return are not positively aligned” (p.15). My comment: Even for randomly picked stocks the marginal gains of diversification are very low (see p. 11) whereas the reductions in sustainability – which are not covered in this paper – can be high, see 30 stocks, if responsible, are all I need – Responsible Investment Research Blog (prof-soehnholz.com)

Normal anomalies: Anomalies Never Disappeared: The Case of Stubborn Retail Investors by Xi Dong and Cathy Yang as of Dec. 29^th, 2023 (#56): “Our examination of 260 anomalies challenges the prevailing notion that market efficiency erodes anomaly-based profits, these anomalies continue to thrive, especially over longer timeframes. We demonstrate that retail investors play a pivotal role in the persistence of these anomalies. Their stubborn trading patterns, especially against anomalies, not only contribute to initial mispricing but also lead to delayed price corrections“ (p. 37).

Trend following theory: Speculating on Higher Order Beliefs by Paul Schmidt-Engelbertz and Kaushik Vasudevan as of Aug.3^rd, 2023 (#187): “We study investors’ higher order beliefs, using survey data from the Robert Shiller Investor Confidence surveys. While previous work has documented instances of non-fundamental speculation – investors taking positions in a risky asset in a direction that conflicts with their fundamental views – we find that such speculation is the norm for the U.S. stock market. The majority of investors in the Shiller surveys, who represent an important class of investors, report that other investors have mistaken beliefs, but nevertheless report positive return expectations from speculating in the direction of these mistaken beliefs. In addition, investors report that they believe that stock markets overreact and exhibit momentum and reversal in response to news. … We find that higher order beliefs may substantially amplify stock market fluctuations. When investors exhibit the same fundamental belief biases that they attribute to other investors, patterns such as overreaction, momentum, and reversal can persist in equilibrium, even though everybody knows about them“ (p. 37/38). My comment: I use simple trend following strategies to reduce drawdown-risks for investors who do not like bond investments but not to try to enhance returns

US Real Estate: A First Look at the Historical Performance of the New NAV REITs by Spencer J. Couts and Andrei S. Goncalves as of Jan.12^th, 2024 (#31): “…we study the historical investment performance of NAV REITs relative to public bonds, public equities, and public REITs from 2016 to 2023. … First, the smoothness of NAV REIT returns due to lagged price reactions creates an important challenge to the measurement of the alphas of NAV REIT investments relative to public market indices. Moreover, return unsmoothing methods significantly mitigate (but do not fully solve) this issue. Second, traditional performance analysis indicates that NAV REIT investments generated substantial alpha (above 5% per year) relative to public indices over our sample period“ (p. 26).

PE calculation-uncertainties: Unpacking Private Equity Performance by Gregory Brown and William Volckmann as of Dec. 20^th., 2023 (#31): “… complicating the analysis are the increasingly common practices of funds using subscription lines of credit (fund-level debt) and recycling capital. Even the variation in the timing of capital deployment across funds has important implications for common performance measures used to evaluate funds such as internal rate of return (IRR) and multiple on invested capital (MOIC). …. values likely observed during fundraising periods for subsequent funds – are strongly affected by subscription lines and deployment pacing. Intermediate MOICs are only weakly affected by subscription lines, but strongly affected by capital deployment pacing. Both IRRs and MOICs are strongly affected by recycle deal accounting methodology“ (abstract). “When a fund utilizes subscription lines, net IRR is very sensitive over the life cycle of the fund and can massively exaggerate performance during the investment/fundraising period. Net MOIC can also be exaggerated early in the investment period …” (p. 17).

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Biodiversity risk: Researchpost #153

Biodiversity risk: 10x new (critical) research on ESG ETF and net-zero, sustainability-linked bonds, lifecycle and thematic investments, altruism and stablecoins

Biodiversity risk research

Broad biodiversity risk: Living in a world of disappearing nature: physical risk and the implications for financial stability by Simone Boldrini, Andrej Ceglar, Chiara Lelli, Laura Parisi, and Irene Heemskerk from the European Central Bank as of Nov. 14^th, 2023 (#23): “Of the 4.2 million euro area NFCs (Sö: Non-financial corporations) that were included in our research, around 3 million are highly dependent on at least one ecosystem service. … approximately 75% of euro area banks’ corporate loans to NFCs (nearly €3.24 trillion) are highly dependent on at least one ecosystem service. … we have enough data and knowledge available to enable timely and nature-friendly decision-making” (p. 38).

Biodiversity risk reduction? How could the financial sector contribute to limiting biodiversity loss? A systematic review by Lisa Junge, Yu-Shan Lin Feuer, and Remmer Sassen as of Feb. 7^th, 2023 (#109) “the currently available scientific discourse is also not unanimous about the status of biodiversity in finance. Therefore, this paper aims to synthesise existing publications to gain transparency about the topic, conducting a systematic review. Three main concepts emerge about how the private finance sector can aid in halting biodiversity loss, namely: (1) by increasing awareness of biodiversity, (2) by seizing biodiversity-related business opportunities, and (3) by enlarging biodiversity visibility through reporting. Overall, we assume that the private finance sector upholds a great leverage power in becoming a co-agent of positive biodiversity change”(abstract).

Responsible investment research (Biodiversity risk)

Blackrock-problem? Fossil-washing? The fossil fuel investment of ESG funds by Alain Naef from Banque de France as of Nov. 16^th, 2023 (#19): “… I analysed all the large equity Exchange Traded Funds (ETFs) labelled as ESG available at the two largest investors in the world: Blackrock and Vanguard. For Blackrock, out of 82 funds analysed, only 9% did not invest in fossil fuel companies. Blackrock ESG funds include investments in Saudi Aramco, Gazprom or Shell. But they exclude ExxonMobil or BP. This suggests a best-in-class approach by the fund manager, picking only certain fossil fuel companies that they see as generating less harm. But it is unclear what the criteria used are. For Vanguard, funds listed as ESG did not contain fossil fuel investment. Yet this needs to be nuanced as information provided by Vanguard on investments is less transparent and Vanguard offers fewer ESG funds” (abstract). My comment: For my ESG and SDG ETF-selection I use demanding responsibility criteria and more so for my direct equity portfolios, see the newly updated Das-Soehnholz-ESG-und-SDG-Portfoliobuch.pdf (soehnholzesg.com)

Listed equity climate deficits: The MSCI Net-Zero Tracker November 2023 – A guide to progress by listed companies toward global climate goals from the MSCI Sustainability Institute as of November 2023: “Listed companies are likely to put 12.4 gigatons (Gt) of GHG emissions into the atmosphere this year, up 11% from 2022. … global emissions are on track reach 60.6 Gt this year, up 0.3% from 2022. … Domestic emissions in eight emerging-market G20 countries examined rose by an average of 1.2% per year over the period, while emissions of listed companies in those markets climbed 3.2% annually. … Just over (22%) of listed companies align with a 1.5°C pathway, as of Aug. 31, 2023 … Listed companies are on a path to warm the planet 2.5°C above preindustrial levels this century … More than one-third (34%) of listed companies have set a climate target that aspires to reach net-zero, up from 23% two years earlier. Nearly one-fifth (19%) of listed companies have published a science-based net-zero target that covers all financially relevant Scope 3 emissions, up from 6% over the same period” (page 6/7).

ESG or cash flow? Does Sustainable Investing Make Stocks Less Sensitive to Information about Cash Flows? by Steffen Hitzemann, An Qin, Stanislav Sokolinski, and Andrea Tamoni as of Oct. 30^th, 2023 (#56): “Traditional finance theory asserts that stock prices depend on expected future cash flows. … Using the setting of earnings announcements, we find that sustainable investing diminishes stock price sensitivity to earnings news by 45%-58%. This decline in announcement-day returns is mirrored by a comparable drop in trading volume. This effect persists beyond the immediate announcement period, implying a lasting alteration in price formation rather than a short-lived mispricing“ (abstract).

Similar calls: SLBs: no cal(l)amity by Kamesh Korangi and Ulf Erlandsson as of Nov. 16^th, 2023 (#13): A common criticism of sustainability-linked bonds (SLBs) has been around callability, where it is sometimes suggested that bond issuers are pushing this feature into bond structures to wriggle out of sustainability commitments. … Our analysis finds scant quantitative evidence to support this critique. Overall, when comparing SLBs with similar non-SLB issuances, we observe little ‘excess’ callability in SLBs. The key to this result is to control for sectors, ratings and issue age when comparing SLBs with the much larger market of traditional bonds” (p. 1).

Other investment research

100% Equity! Beyond the Status Quo: A Critical Assessment of Lifecycle Investment Advice by Aizhan Anarkulova, Scott Cederburg and Michael S. O’Doherty as of Nov.1^st, 2023 (#950): “We challenge two central tenets of lifecycle investing: (i) investors should diversify across stocks and bonds and (ii) the young should hold more stocks than the old. An even mix of 50% domestic stocks and 50% international stocks held throughout one’s lifetime vastly outperforms age-based, stock-bond strategies in building wealth, supporting retirement consumption, preserving capital, and generating bequests. These findings are based on a lifecycle model that features dynamic processes for labor earnings, Social Security benefits, and mortality and captures the salient time-series and cross-sectional properties of long-horizon asset class returns” (abstract).

Lemming investors? The Big Shortfall? Thematic investors lose lion’s share of returns due to poor timing by Kenneth Lamont and Matias Möttölä from Morningstar as of Nov. 15^th, 2023 : “While thematic funds‘ average total return was 7.3% annualized over the five-year period through June 30, 2023, investors earned only a 2.4% return when the impact of cash inflows and outflows is considered. … Investors lost more value in focused funds such as those tracking Technology or Physical World broad themes compared with more diversified Broad Thematic peers. Return gaps were far wider in exchange-traded funds than in thematic mutual funds. ETFs tend to offer more concentrated bets and lend themselves to tactical usage. The largest return shortfalls occur across highly targeted funds, which posted eye-catching performance, attracting large net inflows before suffering a change of fortune“ (p. 1). My comment: My approach to thematic investments see e.g. Alternatives: Thematic replace alternative investments (prof-soehnholz.com)

Risk-loving altruists? Can Altruism Lead to a Willingness to Take Risks? by Oded Shark as of Mov. 7^th, 2023 (#7): “I show that an altruistic person who is an active donor (benefactor) is less risk averse than a comparable person who is not altruistic: altruism is a cause of greater willingness to take risks” (abstract). … “The lower risk aversion of an altruistic person … might encourage him to pursue risky ventures which could contribute to economic growth and social welfare” (p. 7).

Unstable coins? Runs and Flights to Safety: Are Stablecoins the New Money Market Funds? by Kenechukwu Anadu et al. from the Federal Reserve Bank of Boston as of Oct. 9^th, 2023 (#743): “… flight-to-safety dynamics in money market funds have been extensively documented in the literature—with money flowing from the riskier prime segment of the industry to the safer government segment … flight-to-safety dynamics in stablecoins resemble those in the MMF industry. During periods of stress in crypto markets, safer stablecoins experience net inflows, while riskier ones suffer net outflows. … we estimate that when a stablecoin’s price hits a threshold of 99 cents (that is, a price drop of 100 basis points relative to its $1 peg), investor redemptions accelerate significantly, in a way that is reminiscent of MMFs’ “breaking the buck … Should stablecoins continue to grow and become more interconnected with key financial markets, such as short-term funding markets, they could become a source of financial instability for the broader financial system” (p. 33).

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