Dynamic ESG Equilibrium

56 Pages Posted: 5 Oct 2021 Last revised: 12 Nov 2022

See all articles by Doron Avramov

Doron Avramov

Interdisciplinary Center (IDC) Herzliyah

Abraham Lioui

EDHEC Business School

Yang Liu

The University of Hong Kong - Faculty of Business and Economics

Andrea Tarelli

Catholic University of Milan

Date Written: October 3, 2021

Abstract

This paper develops and applies an equilibrium model that accounts for ESG demand and supply dynamics. In equilibrium, ESG preference shocks represent a novel risk source characterized by diminishing marginal utility and positive premium. Expected green asset returns are negatively associated with time-varying convenience yield, while positive exposure of unexpected returns to ESG preference shocks imply a positive green premium. Augmenting these conflicting forces with positive contemporaneous effects of preference shocks on realized returns, the green-minus-brown portfolio can deliver large positive payoffs for long horizons. Nonpecuniary benefits from ESG investing account for a nontrivial and increasing fraction of total consumption.

Keywords: ESG, Dynamic equilibrium, Asset pricing, Preference shock

JEL Classification: G12, G19, J71

Suggested Citation

Avramov, Doron and Lioui, Abraham and Liu, Yang and Tarelli, Andrea, Dynamic ESG Equilibrium (October 3, 2021). Available at SSRN: https://ssrn.com/abstract=3935174 or http://dx.doi.org/10.2139/ssrn.3935174

Doron Avramov

Interdisciplinary Center (IDC) Herzliyah ( email )

P.O. Box 167
Herzliya, 46150
Israel

HOME PAGE: http://faculty.idc.ac.il/davramov/

Abraham Lioui

EDHEC Business School ( email )

France

Yang Liu

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

Andrea Tarelli (Contact Author)

Catholic University of Milan ( email )

Largo Gemelli, 1
Milan, 20123
Italy

HOME PAGE: http://sites.google.com/view/andreatarelli

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