Pixabay picture of trees in Celle by Gerd Funke as symbol for green illusion

Green illusion: Researchblogposting #108

Negative disclosure? Disclosure without solution: First evidence from Scope 3 reporting in the oil and gas sector by Andreas G.F. Hoepner and Fabiola I. Schneider as of Dec. 5th, 2022 (#116): “We provide first evidence of the key influence of Scope 3 emission reporting, and specifically downstream Use-of-Product emissions, on financial market valuations representing market expectations in the oil and gas sector. … we demonstrate that reporting of Scope 3 emissions, and especially Scope 3 Use-of-Product emissions, lead to an underperformance of oil and gas share prices“ (p. 27).

Good regulation: Carbon Emissions and Shareholder Value: Causal Evidence from the U.S. Power Utilities by Mayank Kumar and Amiyatosh Purnanandam as of November 22nd, 2022 (#38): “Using a regulatory intervention that limited the ability of power plants located in 10 Northeastern and Mid-Atlantic states to emit carbon, we tease out the causal effect of carbon emission on financial performance. Profits drop as a result of the switch to cleaner technology. However, shareholders benefit in the long run by obtaining higher market valuation. Part of this higher valuation comes from the growth of ESG-related mutual funds that held more electric utilities from the treated states” (p. 23).

Responsible investment research: Green illusion

Non-financial motives: Corporate Social Responsibility by Harrison Hong and Edward Shore as of Dec. 12th, 2022 (#149): “Is shareholder interest in corporate social responsibility driven by pecuniary motives (abnormal rates of return) or non-pecuniary ones (willingness to sacrifice returns to address various firm externalities)? To answer this question, we categorize the literature into seven tests: (1) costs of capital, (2) performance of portfolios, (3) ownership by types of institutions, (4) surveys and experiments, (5) managerial motives, (6) shareholder proposals, and (7) firm inclusion in responsibility indices. These tests and the most recent proposals data predominantly indicate that shareholders are driven by non-pecuniary motives” (abstract).

ESG bonus limits: ESG-Linked Compensation, CEO Skills, and Shareholders’ Welfare by Swarnodeep HomRoy, Taylan Mavruk, and Diem Nguyen as of Nov. 21st,2022 (#46): “CEO compensation is increasingly being linked to ESG outcomes. … Using granular information on contract design from Swedish firms, we show that ESG-linked contracts are more likely for CEOs with broader skill sets (generalist CEOs) in well-governed firms and after peer firms are penalized for environmental misbehaviours. ESG scores of well-governed firms improve when generalist CEOs have ESG-linked pay, but there is no such effect for poorly governed firms. We find no significant effect of ESG-linked CEO pay on profitability, irrespective of governance and CEO skill set” (abstract). My comment see Wrong ESG bonus math? Content-Post #188 – Responsible Investment Research Blog (prof-soehnholz.com)

Sovereign ESG benefits: International market exposure to sovereign ESG by Christian Morgenstern, Guillaume Coqueret, and  James Kelly as of Nov. 25th, 2022:  “Contrasting with the recent sustainability hype, we find no evidence of strong sovereign ESG demand …. Nevertheless, we do find that contemporaneously positive ESG scores are associated with excess GDP growth, especially in S and G pillar” (p. 17).

Pension risks: EIOPA’s first IORPs climate stress test shows material exposure to transition risks as of Dec. 13th, 2022: “The European Insurance and Occupational Pensions Authority (EIOPA) published today the results of its climate stress test of European Institutions for Occupational Retirement Provisions (IORPs). … On the asset side, the stress scenario provoked a sizeable overall drop of 12.9%, corresponding to asset valuation losses of some €255 billion. The bulk of the drop in value showed up in equity and bond investments. IORPs on average had around 6% of their equity and 10% of their corporate bond investments in carbon intensive industries such as mining, electricity & gas and land transport, for which the scenario prescribed steep write-downs of between 20% and 38%. … Only 14% of IORPs reported using environmental stress testing in their own risk management. Importantly, results indicate that this subgroup performed better in the exercise than their peers that do not conduct such analyses …”.

Brown risk transfers: The Color of Corporate Loan Securitization by Isabella Mueller, Huyen Nguyen, and Trang Nguyen as of Nov. 22nd, 2022 (#16): “This paper presents novel evidence that banks use securitization to manage their exposure to firms’ transition risk. We document a sizable increase in the probability of loans granted to firms with a worsening environmental performance to be securitized, especially when banks may not be willing to reduce credit supply to their borrowers. We find that depending on banks’ business models, they choose between risk pricing through increasing loan spreads or risk shifting through securitization. … As banks can manage transition risk using securitization, policymakers should be aware of this fact when designing climate-related capital and liquidity requirements“ (p. 29/30).

Microfinance greenium: Does It Pay to be Green? A Study of the Global Microfinance Industry by Leif Atle Beisland, Stephen Zamore, and Roy Mersland as of Dec. 4th, 2022 (#4): “Using a sample of 234 rated MFIs in 58 countries, we find that being green is associated with higher social and financial performance. Specifically, MFIs with environmental policies have higher financial performance (i.e., higher returns on assets, lower operating costs, and lower cost of capital) and higher social performance (i.e., a higher social rating score) than those without environmental policies” (abstract).

Traditional and alternative investment resesearch

Micro-profits: Monitoring and Loan Pricing: Do Microfinance Institutions Extract Rents from Entrepreneurs? by Abu Zafar M. Shahriar, Luisa Unda, John Berns, and Panunya Phatraphumpakdee as of November 22nd, 2022 (#9): “… using data from 712 MFIs across 62 countries from 2010 to 2018, we find … MFI to extract rents by charging high interest rates. Furthermore, we find that MFIs that make more relationship-based loans, operate in less competitive markets, and those driven by for-profit commercial banking logic are more likely to extract rents” (abstract).

Working trend-following: Should Your Portfolio Protection Work Fast or Slow? by AQR as of November 22nd, 2022: “Papers on tail risk tend to come out after markets lose money, leaving investors with the unappealing prospect of buying insurance after it was actually needed. We believe this hesitation is justified for options-based strategies. Their tendency for negative long-term returns makes them a poor portfolio addition in general, and they often see rising prices (via higher premiums) after periods of market stress—making these among the worst times to invest. … trend-following strategies … have shown the ability to deliver over the long term and particularly in “slow” challenging market environments …” (p. 9).

IQ investment payoff: Finance and intelligence: A survey by Nicolas Eber, Patrick Roger, and Tristan Roger as of Nov. 22nd, 2022 (#54): “The effect of cognitive abilities on risk tolerance remains controversial. Some studies find a positive link, some others do not find any, and the third category of papers finds that the link, whatever the direction, is largely contingent on the measures that are used and the experimental framework.  Results are more clearcut for patience. Individuals with higher (lower) cognitive abilities are more (less) patient. High cognitive abilities reduce the propensity to fall prey to most behavioral biases. – People with higher cognitive abilities achieve better financial outcomes (when using credit cards, in managing loans, etc.). People with higher cognitive abilities are more willing to participate in stock markets. At the country level, a positive relationship was found between the mean IQ score and the development of the financial and banking systems – People with higher cognitive abilities perform better in financial markets. They achieve higher earnings in experimental markets and they get higher Sharpe ratios in real markets” (p. 29).

Risky professional VC backers? Risky Business: Venture Capital, Pivoting and Scaling by Pehr-Johan Norback, Lars Persson, and Joacim Tag as of De. 5th, 2022 (#11): “VC-backed startups will choose more high-risk, high-reward research and scaling strategies than independent startups. The reason is temporary ownership and the compensation structures used in the VC industry. These create ”exit costs” for VC-backed startups that imply that riskier strategies pay off. We also show that the presence of an active VC market may induce startups to take more risks initially since VC firms can help startups pivot in case of failure” (abstract).

Fintech meta research: Decoding the trinity of Fintech, digitalization and financial services: An integrated bibliometric analysis and thematic literature review approach by Amola Bhatt, Mayank Joshipura and Nehal Joshipura as of Dec. 11th, 2022 (#3): “This study identifies the main areas and current dynamics of Fintech, digitalization, and financial services and suggests future research directions. Using a bibliometric analysis followed by a thematic literature review, the study examines a sample of 583 journal articles from the Scopus database from 1984 to 2021” (abstract).