Are Green Investors Green-Inducing? A Demand System Approach

Abstract

Despite the growing interest in green investing among academics and industry professionals alike, there is little consensus on whether it successfully incentivizes firms to adopt eco-friendly business practices. Using the equity holdings of institutional investors and the “demand system approach” to asset pricing, we provide evidence that institutional demand for greener stocks encourages firms to improve their environmental performances. Specifically, we devise and estimate a firm-level quantity, institutional pressure for greenness, that measures the price pressure a firm receives from its institutional owners. We find that this quantity has a positive and significant relationship with future improvement in a firm's environmental performance. Together with results from placebo tests, we conclude that green investors, those with high portfolio-level environment scores, are not necessarily green-inducing investors, those who encourage better environmental performance. Instead, green-inducing investors are institutions who contribute to higher institutional pressure, i.e. investors who are price-inelastic and display a positive portfolio tilt towards greener assets.

Keywords: ESG, Green Investing, Demand System, Institutional Investors

JEL Classification: G10, G11, G20