Don’t overpay when investing in ethical funds

Exxon Mobil: sustainable to some
Does sustainable or ethical investing pay? The evidence is mixed. But one thing matters more than anything else, says Robin Powell.
Everyone seems to be talking about sustainable investing right now. In last week’s issue, John Stepek looked at the difficulties of finding out exactly what’s in your “ethical” fund. But putting aside questions of morality for a moment – is investing with an eye on social impact a good idea financially? Do environmental, social and corporate governance (ESG) funds deliver higher returns than their mainstream counterparts? What does the evidence suggest?

The first question to ask is this: is there any reason why high-sustainability companies should produce higher returns than low-sustainability firms? The answer appears to be “yes”. A study published in 2014 looked at data from 190 of the largest US companies between 1993 and 2010. It found that high-sustainability firms tended to conduct more long-term planning, and also measured non-financial criteria to a greater extent than their low-sustainability peers. The researchers found that such firms “significantly outperform their counterparts over the long-term, both in terms of stock market as well as accounting performance”. A German study published in 2015 reached similar conclusions. Aggregating information from more than 2,000 studies, researchers found that “the business case for ESG investing is empirically very well founded”. They also found that the positive correlation of high ESG scores and corporate financial performance appears stable over time, and across different sectors and regions.
The wages of sin are pretty decent too
There is, however, another side to the story. In a study published in 2009, researchers Harrison Hong and Marcin Kacperczyk made a strong case for doing the exact opposite – investing in so-called “sin” stocks. They argued that there is a “societal norm” against, for example, betting on companies and producers of alcoholic drinks and tobacco. As a result, they showed, such stocks are less likely to appeal to “norm-constrained” institutions such as pension funds. This means their prices are relatively depressed for reasons not related to the success or otherwise of the business – and lower prices, of course, mean higher expected returns.

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Robin Powell is editor of The Evidence-Based Investor (

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