The risk of social responsibility – is it systematic?

ABSTRACT

This paper empirically investigates the risk characteristics of three environmental, social and corporate governance (ESG) rating concepts commonly used for assessing corporate social performance (CSP). Analogous to financial returns, investors are subject to the risk of changes in the average ESG level of their portfolio which is denoted as ESG risk. This is of special interest to private and institutional investors focused on a socially responsible investment strategy. Moreover, a growing number of financial products, such as mutual funds, include sustainability objectives. With a large data set including the scores of three important ESG rating agencies, the paper further examines the convergence of ESG risk among different rating providers. Applying a regression-based approach, the paper provides evidence that ESG ratings are subject to a non-diversifiable risk component. Investors are therefore not able to fully avoid ESG risk by diversification. Furthermore, the three rating concepts are not convergent with respect to ESG risk.

KEYWORDS:

• Socially responsible investing (SRI)
• environmental
• social
• governance (ESG)
• corporate social performance
• corporate responsibility
• risk

JEL CLASSIFICATIONS:

• G10
• G11

Disclosure Statement

No potential conflict of interest was reported by the authors.

Notes

1. Although, we only use a one-factor model, the use of multi-factor models may indeed be promising for further research once a considerably longer time series of ESG scores is available.

2. Note that the β coefficient of this regression does not correspond to the conventional beta factor as known from the CAPM.