Socially Responsible Investing: The Eco-Efficiency Premium Puzzle

Abstract:     
There exists a widespread consensus among mainstream academics and investors that socially responsible investing (SRI) leads to inferior, rather than superior, portfolio performance. Using Innovest's well-established corporate eco-efficiency scores, we provide evidence to the contrary. We compose two equity portfolios that differ in eco-efficiency characteristics and find that our high-ranked portfolio provided substantially higher average returns compared to its low-ranked counterpart over the period 1995-2003. Using a wide range of performance attribution techniques to address common methodological concerns, we show that this performance differential cannot be explained by differences in market sensitivity, investment style, or industry-specific components. We finally investigate whether this eco-efficiency premium puzzle withstands the inclusion of transaction costs scenarios, and evaluate how excess returns can be earned in a practical setting via a best-in-class stock selection strategy. The results remain significant under all levels of transactions costs, thus suggesting that the incremental benefits of SRI can be substantial.

Note: Previously titled "Socially Responsible Investing: The Eco-Efficiency Premium in the U.S. Equity Market"

Keywords: Socially Responsible Investing, SRI, Corporate Environmental Performance, Eco-Efficiency, Performance Measurement, Style Analysis

JEL Classifications: G12, G20, G23

Working Paper Series