Responsible Investors and Stock Market Feedback

57 Pages Posted: 11 Dec 2022 Last revised: 26 Sep 2023

See all articles by Hui Chen

Hui Chen

University of Zurich

Jan Schneemeier

Michigan State University - Eli Broad College of Business

Date Written: July 1, 2022

Abstract

We analyze a manager's optimal reporting strategy when choosing between a green and a brown project in the presence of market feedback. The project's success requires the investment decision to match the state of nature. The manager may misrepresent brown signals as green to cater to the preferences of responsible investors who dislike investing in brown firms. Ex-ante, such manipulation reduces investors' incentive to acquire information, i.e, the extensive margin of informed trading. However, it also makes them more willing to trade on their signals, thus increasing the intensive margin of trading and strengthening feedback ex-post. Manipulation weakens market feedback and reduces firm value if the negative effect on the extensive margin dominates the positive effect on the intensive margin of trading. Truthful reporting of brown signals makes prices less informative and increases the negative externalities associated with brown projects. Our insights can be extended beyond the ESG setting to settings where investors prefer a specific type of project, such as a particular technology or geographic location.

Keywords: Manipulation, market feedback, reporting strategy, price efficiency, real efficiency

JEL Classification: G14, G30, M41

Suggested Citation

Chen, Hui and Schneemeier, Jan, Responsible Investors and Stock Market Feedback (July 1, 2022). Available at SSRN: https://ssrn.com/abstract=4296418 or http://dx.doi.org/10.2139/ssrn.4296418

Hui Chen

University of Zurich ( email )

Plattenstrasse 14
Zurich, CH-8032
Switzerland

Jan Schneemeier (Contact Author)

Michigan State University - Eli Broad College of Business ( email )

632 Bogue St
East Lansing, MI 48824
United States

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