Is ESG an Equity Factor or Just an Investment Guide?

Abstract

Environmental, Social and Governance (ESG) information demands attention within the asset management industry since it has become widely accepted that making an allowance for ESG criteria within an equity portfolio enhances returns. We test this proposition by incorporating ESG criteria into a worldwide market neutral portfolio using an 'off-the-shelf' third party database of individual securities' ratings. Our results show that incorporating ESG information into a worldwide equity market neutral portfolio yields no additional return, as any benefits from tilting towards a better rated ESG portfolio is already wholly captured by other well-known equity factors. Doing so, however, does not hurt returns. We conclude that ESG should not be considered as a unique equity factor.

Keywords: ESG ratings, Quantitative Asset Management, Equity market neutral, Risk premia