Corporate Social Performance and Idiosyncratic Risk: A Variance Decomposition Analysis
44 Pages Posted: 24 Feb 2013
Date Written: February 22, 2013
I investigate the relationship between corporate social responsibility and idiosyncratic risk using a 17 year panel of over 3,269 US listed companies. Following Vuolteenaho (2002), I use a three state vector autoregressive model of expected returns and decompose the residuals into earnings and discount rate shocks. Using optimally scaled principal components analysis to generate aggregate measures of CSR strengths and concerns, I find higher concerns are related to higher volatility of unexpected earnings and discount rates. Higher CSR strengths are associated with lower idiosyncratic variance. Partitioning the sample into positive and negative earnings shocks, I find that CSR strengths decrease the variance of negative returns, but increase the variance of positive returns, consistent with the notion that investments in social responsibility provide insurance against negative earnings shocks. My results are robust to the endogeneity of CSR and financial performance and also control for firm size and the presence of informed investors. My results show the influence of CSR on firm value through a relatively unexplored channel, and explain why the influence will be obscured when examining well-diversified portfolios. Finally, the evidence suggests that CSR concerns are more value relevant than CSR strengths.
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