Study Overview
Using SASB’s materiality framework, prior research finds alpha for the portfolio of firms with improving ratings on material ESG issues. We replicate this finding and provide a fundamentals-based perspective on why the materiality portfolio outperforms. Our basic premise is that changes in material ESG issues reflect fundamental firm characteristics. More financially established firms—firms with larger size, lower growth, and higher profitability relative to their sector—are more likely to not only create material strengths but also resolve material weaknesses in their ESG scoring. This fundamental link dictates that one should comprehensively control for fundamental determinants of stock returns before attributing portfolio outperformance to improving material ESG scores.
Study Results
Indeed, we find that the materiality portfolio does not generate alpha after we account for its exposure to profitability and growth factors. Our evidence underscores the issue of correlated omitted fundamental factors in the debate of ESG alpha.
News & media
Doing Good by Doing Well? The Chicken And Egg Problem in the ESG Alpha Debate
August 18, 2024
What is the association between ESG performance and stock returns? This critical question arises as investors and firms increasingly recognize that ESG issues can materially impact corporate value creation. Our study examines this amid the rapid growth of global ESG investing, now a multi-trillion dollar sector, and a widening divide between major US asset managers facing domestic political pressure and their European counterparts engaged in ESG-focused coalitions.