Factor exposures and diversification: Are sustainably screened portfolios any different?
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Factor exposures and diversification: Are sustainably screened portfolios any different? Arnaud Gougler1 · Sebastian Utz2
© Swiss Society for Financial Market Research 2020
Abstract We analyze the performance, risk, and diversification characteristics of global screened and best-in-class equity portfolios constructed according to Inrate’s sustainability ratings. The financial performance of sustainably high-rated portfolios is similar to the risk-adjusted market performance in terms of abnormal returns of a five-factor market model. In contrast, low-rated portfolios exhibit negative abnormal returns. Firms with high sustainability ratings show lower idiosyncratic risk and higher exposure toward the high-minus-low and the conservative-minus-aggressive factor. Keywords Sustainable portfolios · Portfolio diversification · ESG scores · Screening approaches · Idiosyncratic risk JEL Classification G11 · Q56
1 Introduction Sustainable investments refer to investments that incorporate environmental, social, and governance (ESG) criteria into investment decisions (Laurence 2013). Over the past decades, such investments have become a major trend worldwide and continue to grow at a steady rate (Eurosif 2018; Renneboog et al. 2008). This evolution has made sustainable investments a key topic in financial research (see Auer and Schuhmacher 2016; Derwall et al. 2011; Renneboog et al. 2008; Utz and Wimmer 2014; Schröder 2004; Walker et al. 2014), and various aspects of these types of investments have been scrutinized such as their performance, their risk characteristics, or the real sustainabil-
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Sebastian Utz [email protected] Arnaud Gougler [email protected]
1
University of Fribourg, 1700 Fribourg, Switzerland
2
School of Finance, University St. Gallen, Bodanstrasse 6, 9000 St. Gallen, Switzerland
123
A. Gougler, S. Utz
ity impact of mutual funds labeled as sustainable. In this study, we build on existing financial markets and portfolio management literature on different kinds of sustainable screenings (Areal et al. 2013) and investigate whether sustainably screened portfolios exhibit diversification characteristics that are different from those of unscreened portfolios. Furthermore, we investigate whether portfolios with different screens based on sustainability ratings display different investment styles such as different book-tomarket ratios (see Derwall et al. 2005; Galema et al. 2008). We employ ESG data of the Swiss sustainability rating agency Inrate to apply different levels of screening intensity. We show that portfolios comprising sustainable firms exhibit similar risk-adjusted returns and risk measures, yet diverging investment styles and increased diversification measures as market portfolios. Both in academia and practice, sustainable investments are considered cautiously due to a variety of obscurities concerning implementation, risk, performance, and impact measurement. Indeed, a skeptic strand of the literature argues that, according to the neoclassical economics view, firms’ role is to
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