ESG: Fact vs. Belief
17 Pages Posted: 21 Mar 2019 Last revised: 25 Apr 2019
Date Written: March 21, 2019
The paper examines the investment proposition of a scoring-based ESG investing in the context of portfolio allocation. We assess the theme on the basic idea of investing, viz: return enhancement and/or diversification. At the same time, the paper also argues on some of the subjective aspects which merit an in-depth discussion and debate. This is a returns-based analysis which compares an off-the-shelf ESG component to the broad market and also examines its impact on its inclusion in a typical balanced portfolio. The analyses show that ESG has not been able to add any returns in absolute terms as well as on a risk-adjusted basis. We also evaluated the ability of ESG to protect on the downside given its claims of providing higher quality tilt. Historical data do not suggest any such benefits and ESG demonstrates similar drawdowns as traditional equities during risk off periods. We, therefore, do not see much merit in following a ratings-based mechanism for ESG investing. Rather, emphasis should be laid on how to engage with and improve a firm come up the ESG spectrum over time and potentially participate in its upside as investors.
Keywords: ESG, Asset Allocation, Diversification, Portfolio Choice
JEL Classification: G34, G11
Suggested Citation: Suggested Citation