www.icmacentre.ac.uk

Dr Ioannis Oikonomou

The impact of sustainability on financial returns and risk

Presented at Amsterdam, October 7, 2014

• On a broad level, you believe the relationship

between sustainability and risk-adjusted returns

to be:

1) Positive

2) Negative

3) Neutral/Non-existent

4) May be either positive or negative

dependent on specifics

2

Live poll

• Key concept:

- Corporate Social Responsibility/Performance (CSR/CSP)

- Corporate Sustainability

- Corporate Citizenship

And

- Socially Responsible Investing (SRI)

- ESG Investing

- Impact investing

- Ethical/Green/Religious investing

3

Terminology

Rating agencies

• MSCI KLD

• Oekom

• Vigeo

• Sustainalytics

• ASSET4

4

Sustainability Metrics

Other sources

• Corporate reports

• Lists of best/most responsible

firms (e.g. Business in the

Community's Corporate Re-

sponsibility Index)

• SR equity indices (e.g. MSCI

KLD 400, FTSE4Good)

• Empirical work on the link between sustainability and financial

performance started on the 1970s

• First paper: Moskowitz (1972)

• Bulk of literature from early nineties onwards

• More than 500 hundred papers in existence

• Majority consists of analysis at the firm level and looks into

accounting or equity market performance

• But literature is expanding rapidly. Dozens if not hundreds of

working papers

• And moving from generic themes (e.g. CSR in the equity

markets) to more eclectic ones (e.g. CSR and M&As)

5

Relevant academic literature

• Both qualitative reviews (Margolis and Walsh, 2003) and

meta-analyses (Margolis et al., 2009; Orlitzky, et al., 2003)

generally point towards a positive CSP-CFP link, statistically

strong but economically modest

• In the last few years, significant indications of links between

CSP and risk per se (Oikonomou et al. 2012; Salama et al.

2011; Luo and Bhattacharya, 2009; Godfrey et al., 2009)

• Possible that the penalties of social irresponsibility are more

pronounced than the rewards of social responsibility

(Kappou and Oikonomou ,forthcoming; Mishra and Modi,

2013; Lankoski, 2009)

6

What we know

• Comparing SRI funds and indexes with otherwise similar

conventional funds/indexes generally points to very

similar performance (Renneboog et al., 2008; Schroder,

2007; Statman, 2006; Statman, 2000)

• Some indications of SRI outperformance (Derwall and

Koedijk, 2009; Kempf and Osthoff, 2007)

• Excluding entire “sin industries” can lead to

underperformance (Statman, 2009; Hong and

Kacperczyk, 2009)

• Hence, use “best in class” approach instead

7

More on what we know

• Getting “caught in the middle” is probably the

worst thing you can do (Barnett and Salomon,

2006; Oikonomou et al., 2014)

• Green REITs seem to outperform and be less risky

(Eichholtz et al., 2012)

• Sustainability/corporate ethics are priced in bank

loans (Goss and Roberts, 2011; Kim et al., 2013)

• CSP plays a role in M&As (Aktas et al.,2011; Deng

et al., 2013) 8

Stylized indications

• Sampling issues (size, time, region, industries)

• What sustainability? (environment, society,

product safety, employees, diversity, human

rights, ethics, governance etc.)

• What financial performance? (risk adjusted

returns and alpha estimates, observation

window, frequency)

• Transaction costs and market microstructure

9

Limitations and considerations

• What the CSP-CFP link is in the developing

markets (some evidence from China - Ye and

Zhang, 2011)

• Sustainability in alternative asset classes (hedge

funds, private equity, venture capital, equity

options etc.)

• Few international studies

• Additional moderating factors of the CSP-CFP link

(e.g. economic and political cycle)

10

What we don’t know

11

What do we need to find out?

• Aktas, N., De Bodt, E. & Cousin, J. G. (2011). " Do financial markets care about SRI? Evidence from mergers and acquisitions. " Journal of Banking & Finance,35, 1753-1761.

• Barnett, M. L. and R. M. Salomon (2006). "Beyond dichotomy: The curvilinear relationship between social responsibility and financial performance." Strategic Management Journal 27(11): 1101-1122.

• Deng, X., Kang, J. K. & Low, B. (2013). "Corporate social responsibility and stakeholder value maximization: Evidence from mergers." Journal of Financial Economics, 110, 87-109.

• Derwall, J. and K. Koedijk (2009). "Socially Responsible Fixed Income Funds." Journal of Business Finance & Accounting 36(1 2): 210-229.

• Eichholtz P., Kok Nils. and Erkan Y. (2012) " Portfolio greenness and the

financial performance of REITs. " Journal of International Money and Finance

31: 1911-1929.

• Godfrey, P. C., C. B. Merrill and J.M. Hansen (2009). "The relationship between

corporate social responsibility and shareholder value: an empirical test of the

risk management hypothesis." Strategic Management Journal 30(4): 425-

445.

12

References

• Goss, A. and G. S. Roberts (2011). "The impact of corporate social

responsibility on the cost of bank loans." Journal of Banking & Finance 35(7):

1794-1810.

• Hong, H. & Kacperczyk, M. 2009. The price of sin: The effects of social norms

on markets. Journal of Financial Economics, 93, 15-36.

• Kappou, K. and Oikonomou, I. “Is there a Gold Social Seal? The Financial

Effects of Additions to and Deletions from Social Stock Indices”, forthcoming

Journal of Business Ethics.

• Kempf, A. and P. Osthoff (2007). "The effect of socially responsible investing

on portfolio performance." European Financial Management 13(5): 908-922

• Kim, M., Surroca, J. and Tribo, J. (2014). "Impact of ethical behaviour on

syndicated loan rates." Journal of Banking & Finance 38: 122-144.

• Luo, X. and C. Bhattacharya (2009). "The debate over doing good: Corporate social performance, strategic marketing levers, and firm-idiosyncratic risk." Journal of marketing 73(6): 198-213.

13

References

• Margolis, J., H. A. Elfenbein and J.P. Walsh (2009). "Does It pay to be good... and does it matter? A meta-analysis of the relationship between corporate social and financial performance." Harvard Business School Working Paper. 229

• Margolis, J. D. and J. P. Walsh (2003). "Misery loves companies: Rethinking social initiatives by business." Administrative Science Quarterly: 268-305.

• Mishra S. and Modi S., 2013, "Positive and Negative Corporate Social Responsibility, Financial Leverage and Idiosyncratic Risk". Journal of Business Ethics 117(2), 431-448.

• Moskowitz, M. (1972). "Choosing socially responsible stocks." Business and Society Review 1(1): 71-75.

• Oikonomou, I., Brooks, C. and Pavelin, S. (2012). ‘The impact of corporate social performance on financial risk and utility: a longitudinal analysis’. Financial Management, 41, 483–515.

• Oikonomou I., Brooks C. and Pavelin S. (2014). "The Financial Effects of

Uniform and Mixed Corporate Social Performance" , Journal of Management

Studies 51(6): 898-925. 14

References

• Orlitzky, M., F. L. Schmidt and S.L. Rynes (2003). "Corporate social and

financial performance: A meta-analysis." Organization Studies 24(3): 403-

441.

• Renneboog L., Ter Horst, J. and Zhang, C. (2008). “The price of ethics and

stakeholder governance: The performance of socially responsible mutual

funds”, Journal of Corporate Finance 14(3): 302-322

• Salama, A., Anderson K. and Toms, S. (2011). "Does community and

environmental responsibility affect firm risk? Evidence from UK panel data

1994–2006." Business Ethics: A European Review 20(2): 192-204

• Schröder, M. (2007). "Is There a Difference? The Performance Characteristics

of SRI Equity Indices." Journal of Business Finance and Accounting 34 (2),

331-348.

• Statman M., 2006, "Socially Responsible Indices". Journal of Portfolio

Management 32 (3), 100-109.

15

References

• Statman, M. and D., Glushkov, 2009.“The wages of social responsibility”.

Financial Analysts Journal 65 (4): 33-46.

• Statman, M. (2000). "Socially responsible mutual funds." Financial Analysts

Journal 56(3): 30-39.

• Ye K. and Zhang, R. (2011). “Do lenders value corporate social responsibility?

Evidence from China” Journal of Business Ethics, 104:197-206

16

References