The Price of Taste for Socially Responsible Investment

Abstract

The demand for socially responsible investment (SRI) might be driven by:

i) the risk characteristics of “responsible” assets, and/or

ii) investors’ taste for such assets.

The former driver positions SRI in the conventional risk-return framework, the latter entails that investors screen stocks out of their portfolios based purely on their taste for such assets, uncorrelated to risk and return considerations. Theoretically, the screening of certain assets based on investors’ taste should lead to a return premium on the screened assets in equilibrium. In this paper, we disentangle the different contributions of risk and taste in generating risk-adjusted returns for socially responsible assets. By ruling out both systematic and residual risk components, we try to quantify whether and to what extent investors pay a price, in terms of lower returns, due to their taste for responsible assets. Using a sample of 1000 firms from the U.S., Europe, and Asia, between 2005 and 2014, we find evidence for the taste effect and estimate the associated under performance at 4.8% annually. Our results are robust against different model specifications and test assets.

Keywords: Socially Responsible Investment, Corporate Social Responsibility, Mutual Fund Performance, Price of Taste

JEL Classification: G11, C58