Is it still possible to generate abnormal returns with SRI? Evidence from the US

Abstract

This thesis investigates whether it is still possible to generate abnormal returns by applying SRI investment strategies. Early academic literature states a link between high ESG scores and abnormal returns. While that link vanished over time, due to a correction of the mispricing, using new data and methods recent papers once again report that a link between high ESG scores and abnormal returns exists. Using a new set of ESG data acquired from Thomson Reuters ASSET4, as well as the new Fama and French fivefactor model, this thesis investigates the financial performance of SRI in the US by using the S&P 500 investment universe to construct portfolios sorted on ESG scores. This thesis finds that SRI outperforms conventional investments in the US only during crises periods. Covering a time horizon of 14 years, from January 2003 to January 2017, this thesis finds that portfolios sorted on the stocks of the 25% best rated companies in the Environmental-, Social-, and Governance dimension, as well as a combined ESG dimension, do not perform any different compared to conventional investments. Neither does a longshort approach of buying (selling) the top (bottom) 25% stocks. While SRI neither over-, nor underperforms under normal circumstances, the results indicate that low scores in the Environmental dimension are related to slightly negative returns. In a series of following tests, this thesis investigates the performance of SRI during the financial crisis of August 2007 to March 2009. The author finds that over the whole sample period, as well as two sub-sample periods representing the decline of credit supply period and the decline of market trust period, SRI over-performs compared to conventional investments. Specifically, a portfolio consisting of the 25% best stocks of the Environmental dimension consistently outperforms, generating highly statistical return of 0.4% to 1.4%, and a portfolio sorted on the combined ESG score generates 0.5% to 0.6%. Furthermore, results indicate that a long-short approach over the Environmental dimension can generate 1.2% to 1.3%, and around 1.3% for the ESG dimension. Scores from the Social- and the Governance dimensions are individually not related to abnormal returns in any way.