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E-MailPedro Matos is John G. Macfarlane Family Chair and Professor of Business Administration and Academic Director of the Richard A. Mayo Center for Asset Management at the University of Virginia Darden School of Business. This post is based on a recent paper by Professor Matos; Rajna Gibson Brandon, Professor of Finance at the University of Geneva; Simon Glossner, Post-doctoral research associate, UVA Darden School of Business and Richard A. Mayo Center for Asset Management; and Philipp Krueger, Associate Professor of Finance at the University of Geneva and Senior Chair at the Swiss Finance Institute. Related research from the Program on Corporate Governance includes The Illusory Promise of Stakeholder Governance by Lucian A. Bebchuk and Roberto Tallarita (discussed on the Forum here); Companies Should Maximize Shareholder Welfare Not Market Value by Oliver Hart and Luigi Zingales (discussed on the Forum here); and Reconciling Fiduciary Duty and Social Conscience: The Law and Economics of ESG Investing by a Trustee by Max M. Schanzenbach and Robert H. Sitkoff (discussed on the Forum here).
The practice of responsible investing, whereby institutional investors incorporate environmental, social, and governance (ESG) issues into their investment processes, is becoming increasingly important as evidenced by the growth of the Principles for Responsible Investment (PRI) network. Despite the prevalence of PRI signatories in global equity markets (which now manage half of the assets held by institutional investors), there is limited academic evidence on the motivations and portfolio consequences of signing up to the PRI’s Principles and on how those may vary at the international level.
In our paper, Responsible Institutional Investing Around the World, we examine whether PRI signatories walk their (ESG) talk. Our research is the first to use the data from PRI Reporting & Assessment Framework that PRI signatories use to report annually on their responsible investment activities. We match the signatories’ publicly available reporting data with archival data on institutional investors’ global equity portfolio holdings. To measure how serious PRI signatories are about taking ESG issues into account, we calculate a value-weighted ESG score for each institutional investor’s stock portfolio based on the scores from Refinitiv, MSCI, and Sustainalytics. We call these portfolio scores ESG footprints.
We find that institutions that joined the PRI exhibited significantly better ESG footprints on average than non-signatories. The differences between PRI and non-PRI investors’ portfolio footprints can mainly be found in the social and governance dimensions: surprisingly, there is no evidence that PRI investors have statistically significantly better environmental footprints than non-PRI investors. We also examine whether PRI signatories change their behaviour after committing to the Principles and show that institutional investors generally improve their portfolio ESG footprints relative to non-signatories.
We next ask whether there are regional differences among PRI signatories. The pressure on institutional investors to integrate ESG issues into their decision making varies around the world. Environmental and social norms are relatively stronger in Europe, where responsible investing has been more broadly practiced. In contrast, the accounting for ESG factors is more commercially driven (e.g. to attract investor flows) in other geographies. There are also important differences in the regulatory requirements across jurisdictions. For example, in the United States, there is an open debate over the alignment of fiduciary duties and the consideration of ESG factors.
Exploring potential cross-country differences, we find that PRI signatories located outside the United States have better portfolio-level ESG footprints than non-PRI investors in all three ESG dimensions. Strikingly, the ESG footprints of US-based PRI signatories tend to be worse than the footprints of non-PRI US investors. We also find no evidence that US investors improve their portfolio-level ESG footprints after joining the PRI, despite them being the largest group of new signatories in recent years. Overall, we conclude that there is evidence that PRI signatories walk the (ESG) talk, except in the US, where our findings suggest that, for some of them, greenwashing might be an issue.
The rich data from the PRI Reporting Framework provides unprecedented detail of how institutions implement responsible investment. The data distinguishes between the main ESG implementation strategies—such as screening, ESG integration, or the use of thematic investments—and stewardship activities, such as shareholder engagement. We use the data from the PRI Reporting Framework to study differences between signatories based on the extent of ESG incorporation in their equity portfolios. We find that US-based PRI signatories that do not fully incorporate ESG strategies exhibit significantly worse ESG footprints than non-PRI institutions.
This raises the interesting question as to why these US institutions still sign up to the PRI even though they do not live up to the implied commitments. We find that these managers typically only serve a retail clientele (rather than institutional clients who monitor their investment managers more closely) and have ESG problems in their own fund management companies. The findings suggest that partially committed US-based PRI signatories undertake greenwashing to benefit from the increased interest in ESG investing.
Finally, we examine whether there are trade-offs between responsible investing and risk-adjusted investment performance. We compare the yearly buy-and-hold equity portfolio returns of non-PRI investors and PRI signatories based on their level of ESG incorporation. We find that a portfolio’s ESG footprint is negatively correlated with portfolio risk, and therefore provides some downside protection, but is not associated with higher average returns or alphas.
Overall, our paper documents that there is a disconnect between the commitment of some US-domiciled PRI signatories and their ESG portfolio integration intensity. By contrast, in countries other than the US, signatories tend to walk the talk and have better ESG footprints than non-PRI signatories. If signatories walk the talk, they tend to have not only a more sustainable portfolio, but also lower portfolio risks.
The full paper can be accessed here.
