Are environmental social governance equity indices a better choice for investors? An Asian perspective

• Published date: 01 October 2016
• Author: Muhammad Akram Naseem,Jamshed Uppal,Charles Cullinan,Ramiz Ur Rehman,Junrui Zhang
• Date: 01 October 2016
• DOI: http://doi.org/10.1111/beer.12127

Are environmental social

governance equity indices a

better choice for investors? An

Asian perspective

Ramiz Ur Rehman

1,2

, Junrui Zhang

1

,

Jamshed Uppal

3

, Charles Cullinan

4

and

Muhammad Akram Naseem

2

1. School of Management, Xi’an Jiaotong University,Xi’an, Shaanxi, P.R.China

2. Lahore Business School, The University of Lahore, Lahore, Pakistan

3. School of Business and Economics, The Catholic University of America, Washington, DC, USA

4. Bryant University,Smithfield, Rhode Island, USA

This article examines the risk and return profiles of stock indices composed of companies meeting environmental,

social and governance (ESG) screening criteria [such as the Dow Jones Sustainability Indices (DJSI)] and

conventional composite indices of eight Asian countries from 2002 to 2014. The results indicate that there are no

significant differences in the returns or risk-adjusted returns between the ESG indices and the composite indices

within countries. The results do reveal that the market volatility of the ESG indices is higher than the market

volatility of the conventional indices. Market betas of DJSI and ESG equity indices are significantly lower than

betas of the composite equity indices. The overall results indicate that the performance of ESG equity indices of

many Asian countries is similar to the performance of conventional indices, suggesting that investors can pursue

socially responsible investing objectives without a material difference in portfolio performance from conventional

investing.

Introduction

The concept of Socially Responsible Investing

(SRI), which seeks both financial return and

social good, has been around for almost half

a century (Moskowitz 1972). SRI has become an

accepted investment strategy around the world, as

highlighted by the introduction of the Principles

for Responsible Investment (PRI) in 2006.

1

Since

the establishment of the PRI, assets under man-

agement by companies subscribing to the Princi-

ples for Responsible Investment have grown to

US$59 trillion (United Nations 2015). The rapid

growth and diversity of socially responsible

investments has been documented in several stud-

ies (e.g. McCann et al. 2003; EUROSIF 2003,

2006; Sparkes & Cowton 2004; Scholtens 2005,

2006; Wen 2009). A large body of literature has

sought to compare the financial performance of

SRI investments with conventional investments,

and a number of empirical studies have shown

that returns on socially responsible investment are

not significantly different from those on more

conventional investments (D’Antonio et al. 1997;

Guerard Jr 1997; Statman 2000; Bello 2005;

Vermeir et al. 2005; Revelli & Viviani 2015).

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doi: 10.1111/beer.12127

440

Business Ethics: A European Review

Volume 25 Number 4 October 2016

Most of the studies on SRI have examined devel-

oped Western markets, such as the US, UK, and other

European countries. Fewer studies have evaluated

socially responsible investing in non-Western and

emerging markets. The relative performance of SRI

investment strategies may depend on the economic

and institutional environment, as well as on investors’

preferences and investment criteria. The concept of

SRI is well established in developed markets, but may

not be as well established in emerging markets. While

globalization has led to considerable convergence of

financial products, practices, and institutions among

countries, material differences in institutions, regula-

tion, and investors’ behavior still exist between devel-

oped and developing markets (e.g. Jamali & Neville

2011; Hopp & Dreher 2013; Brown 2016).

The current study seeks to compare the financial

performance of socially responsible equity indices of

eight Asian economies with conventional equity indi-

ces in these countries. These eight economies include

the seven emerging markets of China, India, Korea,

Hong Kong, Malaysia, Taiwan, and Thailand, and

the developed market of Japan. We use the Dow

Jones Sustainability Indices (DJSI) and the Environ-

mental, Social and Governance (ESG) equity indices

constructed by Morgan Stanley Corporation Inter-

national (MSCI) for the socially responsible equity

indices. Most previous studies of SRI investing have

compared mutual funds with SRI objectives to

mutual funds with conventional investment objec-

tives, rather than SRI and conventional indices.

While studies of mutual funds are helpful in within-

country comparative analysis, our objective of

assessing differences among countries is better served

by analyses of indices. Our approach also eliminates

the possible impact of the fund manager’s investment

style and strategy. Our study uses traditional meas-

ures of investment performance including mean-

variance analysis, single- and multi-factor models,

and Sharpe ratios and Jensen’s alphas.

The results reveal no significant difference in the

expected returns of the SRI and conventional indi-

ces. However, the market volatility of social equity

indices is generally higher and the systematic risk is

generally lower than those of the conventional equity

indices. Combining these two perspectives, we find

no significant differences between the risk-adjusted

returns of the SRI and conventional indices. Our

findings imply that SRI/ESG information may be

related to the volatility of the SRI indices in the

Asian countries. The SRI indices, however, do not

appear to be as globally integrated as the general

market indices. The results suggest that the relative

return-risk characteristics of the SRI indices are

related to market-specific factors in each country.

The next section of the article explores theoretical

issues related to the topic and presents a review of

the relevant literature. In the third section, the pro-

posed hypotheses and data description of the eight

Asian countries are presented. The fourth section

provides mean-variance comparisons between the

SRI indices of the eight countries and conventional

indices in these countries. The fifth section includes

the estimation of market risk of each country’s indi-

ces with the help of single and multiple factor models

and comparisons of the estimated market risk of

each index. The sixth section explains the results and

discusses the outcomes.

Theoretical issues and empirical

evidence

We discuss the academic literature under four sub-

headings: (1) rationale for cross-country differences

in SRI performance, (2) SRI and company perform-

ance and risk, (3) SRI and investment portfolios,

and (4) Performance of SRI funds and indices.

Rationale for cross-country differences in SRI

performance

As per modern portfolio theory, an asset is evaluated

on the basis of its risk-return characteristics, where

the relevant risk is the systematic risk relative a well-

diversified market portfolio. However, behavioral

economists suggest that a number of behavioral,

institutional, or psychological considerations may

affect investors’ decisions (Ambachtsheer 2011;

Thaler 2012). Thus, they provide one justification for

the relevance of the ESG considerations in portfolio

choice. Beal et al. (2005) show that SRI investors

derive utility from their ethical investing and thus

behave rationally by foregoing higher expected

returns of unscreened conventional investments for

the same level of risk. Such behavioral considera-

tions are likely to be shaped by the cultural and

Business Ethics: A European Review

Volume 25 Number 4 October 2016

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