ESG rumors: 8x new research on carbon offsets, green innovation, sustainable fund outperformance, ESG rumors and their effects on equities and bonds, ESG factors, safe bonds and private equity (# shows SSRN full paper downloads as of March 27th, 2024)
Ecological and social research
Problematic Offsets: Carbon Offsets: Decarbonization or Transition-Washing? by Sehoon Kim, Tao Li, and Yanbin Wu as of March 23rd, 2024 (#104): “Carbon offsets allow firms to claim reductions in carbon emissions by purchasing and retiring carbon credits sold by projects or entities that achieve those reductions. … While large firms with net-zero commitments are more likely to use offsets, we find evidence that offsets are often used strategically by firms that are already positioned close to achieving these targets or in industries where it is easier to boost their ESG rankings relative to their peers. When faced by an exogenous shock to their incentives to boost rankings, firms with low emissions in industries with narrow cross-peer emission gaps become more likely to use offsets whereas heavy-emission firms in large-gap industries do not. Moreover, firms that strategically increase the use of offsets do so by retiring credits from low-quality offset projects, which command lower prices and therefore provide a cost-effective way of transition-washing. Overall, our evidence does not support the purported idea that carbon offsets can be effective at facilitating net-zero transitions by heavy-emission firms. … we do not find evidence that these firms would use such “good” offsets in large-enough quantities to meaningfully reduce their net emissions“ (p. 29/30). My comment: I do not consider/use offsets for my investments.
ESG investment research (ESG rumors)
Green innovation variations: Doing Good by Being Smart: Green Innovation and Firms’ Financial and Environmental Performance by Qiang Cheng, An-Ping Lin, and Mengjie Yang as of March 22nd, 2024 (#25): “We find that firms with more valuable pollution prevention patents have better future financial and environmental performance, whereas the value of firms’ pollution control patents is not associated with their future financial or environmental performance. We further document that pollution prevention innovation improves financial performance through its positive effects on sales growth and cost efficiency …“ (p. 29/30).
2023 ESG outperformance: Sustainable Reality – Sustainable Funds Show Continued Outperformance and Positive Flows in 2023 Despite a Slower Second Half by Morgan Stanley Institute for Sustainable Investing as of Feb. 29th, 2024: “Sustainable funds outperformed their traditional peers in 2023 with a median return of 12.6% compared to traditional funds’ 8.6%, according to Morningstar data. … Sustainable fund assets under management (AUM) globally grew to $3.4 trillion, up 15% from 2022 and reaching 7.2% of total AUM. Inflows to sustainable funds remained positive overall at $136 billion, 4.7% of the prior year-end AUM. … Equity funds with a global, Europe or APAC investment focus skew primarily to Industrials and Health Care, while funds investing in the Americas are more overweight Technology. Greater exposure to Technology stocks helped sustainable equity funds investing in the Americas in 2023, but this was not the only factor influencing sustainable funds’ outperformance” (p. 1). … “If a hypothetical fund achieved the median return for each of the past five years, a sustainable fund would be up +35% compared with a traditional fund’s +25%” (p. 6). … “Europe-domiciled Sustainable Funds Outperformed Traditional Funds, With Article 8 and Article 9 Funds in a Similar Range” (p. 18). My comment: I have a similar experience, see 2023: Passive Allokation und ESG gut, SDG nicht gut – Responsible Investment Research Blog (prof-soehnholz.com)
ESG rumors (1): Attention-Grabbing ESG: Do Investors Extract Value-relevant ESG Information from Social Media? by Yoshitaka Tanaka and Shunsuke Managi as of March 23rd, 2024 (#9): “Initially, we find that unconditional excess stock returns exhibit a positive correlation with positive and attention-grabbing ESG events and a negative correlation with negative ESG events. Our findings also indicate that events with low financial materiality, despite their high social prominence, do not have a lasting effect on stock returns. … we find that the greater is the information asymmetry regarding ESG information, the greater is the stock return response. On the other hand, when we control for firm attributes, we find no correlation between materiality and stock returns. The regression results suggest that the response of stock returns to ESG events may be attributed to market inefficiencies arising from information asymmetries rather than fundamental factors“ (p. 20). My comment: I ,like that my ESG ratings provider incorporates ESG controversies in its frequently updated ESG ratings
ESG rumors (2): From News to Numbers: Quantifying the Impact of ESG Controversies on Corporate Bond Spreads by Doina C. Chichernea, J. Christopher Hughen, and Alex Petkevich as of March 23rd, 2024 (#7): “… we document that bondholders demand a higher credit spread for bonds issued by firms with higher ESG controversies. The adverse effect of ESG controversies on bond pricing is long-lived and is primarily observed in bond issues with higher credit risk and more pronounced information asymmetry. We also document that current ESG controversies significantly predict an increase in the firm’s future asymmetric information and default risk …” (abstract).
No ESG factor? Are ESG Factors Truly Unique? by Svetoslav Covachev, Jocelyn Martel, and Sofia Brito-Ramos as of March 21st, 2024 (#71): “This paper studies the relationships between carbon and ESG risk factors and commonly accepted equity risk factors. … the carbon and ESG risk factors can be replicated as linear combinations of risk factors that are based on stock characteristics that are not directly related to environmental and ESG policies. We note that the main inputs for building the carbon and ESG factors are ESG ratings, which have a documented link with firm size. Bigger firms tend to have greater resources for gathering and disclosing ESG information. We also examine the risk exposures of popular ESG indexes, which provide a convenient means to invest in ESG-focused companies. Our findings indicate that the indexes examined are all exposed to the market and size factors, but they are also well-explained by the long leg of the ESG factor” (p. 15). My comment: Sustainable investments should not be expected to have higher returns but rather lower (ESG and thus overall) risks than comparable other investments.
Other investment research (ESG rumors)
Flights to bonds: Global or Regional Safe Assets: Evidence from Bond Substitution Patterns by Tsvetelina Nenova as of March 25th, 2024 (#5): “This paper provides novel empirical evidence on portfolio rebalancing in international bond markets through the prism of investors’ demand for bonds. … Safe assets such as US Treasuries or German Bunds face especially inelastic demand from investment funds compared to riskier bonds. But spillovers from these safe assets to global bond markets are strikingly different. Funds substitute US Treasuries with global bonds, including risky corporate and emerging market bonds, whereas German Bunds are primarily substitutable within a narrow set of euro area safe government bonds. Substitutability deteriorates in times of stress, impairing the transmission of monetary policy“ (abstract).
Private equity dissected: The economics of private equity: A critical review by Alexander Ljungqvist as of Feb. 15th, 2024: “… I have aimed to critically synthesize the main insights of more than 90 academic studies of private equity … to draw the following conclusions. Private equity funds have, on average, historically outperformed public-market indices after fees, but maybe not when adjusted for risk, leverage, and illiquidity. … Private equity funds generate returns for their investors through a combination of the value they add to their portfolio companies and their ability to target companies whose performance is about to take off anyway. Whether private equity creates social value for the economy at large is an open question. … Private equity is a demanding asset class in which more sophisticated investors can expect to earn better returns than less sophisticated investors. There is scope for ample misalignment of interests between fund managers and investors. Private equity is an innovative asset class, creating new practices and solutions at a fast pace. Recent examples include subscription lines, GP-led secondaries, and NAV financing“ (p. 42/43).
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