Tilting the Wrong Firms? How Inflated ESG Ratings Negate Socially Responsible Investing under Information Asymmetries

62 Pages Posted: 14 Jun 2022 Last revised: 13 Dec 2022

See all articles by Dennis Bams

Dennis Bams

Maastricht University - Department of Finance; Open University Heerlen

Bram van der Kroft

Maastricht University: Finance; Open University: Accounting and Finance

Multiple version iconThere are 2 versions of this paper

Date Written: December 12, 2022

Abstract

This paper uncovers global ESG rating inflation that negates the societal impact of socially responsible investing under information asymmetries. Refinitiv, MSCI IVA, and FTSE ESG ratings are inversely related to sustainable performance because firms’ promises of sustainable performance improvements do not realize up to 15 years in the future. Consequently, socially responsible investors accidentally tilt their portfolios toward firms with high ESG ratings but low sustainable performance. We causally show that this provides cost of capital incentives for firms to inflate their ESG rating. Therefore, the portfolios of socially responsible investors are less sustainable than the market.

Keywords: Cost of capital, portfolio tilting, socially responsible investing (SRI), promised to realized sustainable performance

JEL Classification: G11, M14, Q56

Suggested Citation

Bams, Dennis and van der Kroft, Bram, Tilting the Wrong Firms? How Inflated ESG Ratings Negate Socially Responsible Investing under Information Asymmetries (December 12, 2022). Available at SSRN: https://ssrn.com/abstract=4126986 or http://dx.doi.org/10.2139/ssrn.4126986

Dennis Bams

Maastricht University - Department of Finance ( email )

Maastricht, 6200 MD
Netherlands

Open University Heerlen ( email )

Netherlands

Bram Van der Kroft (Contact Author)

Maastricht University: Finance ( email )

Tongersestraat 53
Maastricht, Limburg 6211LM
Netherlands
0614812713 (Phone)

HOME PAGE: http://https://www.maastrichtuniversity.nl/about-um/faculties/school-business-and-economics

Open University: Accounting and Finance ( email )

Valkenburgerweg 177
Heerlen, 6419 AT
Netherlands
0614812713 (Phone)

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