Dive Brief:
- Retail investors let environmental, social and governance-related information influence their portfolio allocation decisions and trading as long as it generates returns for their investments, according to a research paper published last month.
- The study — co-authored by Stanford, Yale and University of Pennsylvania business school professors — found that investors treat ESG news the same way as any other financial news that can be “financially material to a company’s stock performance.” Environmental and social concerns do not take precedence over profit.
- Retail investor trading activity surveyed from December 2015 to August 2022, however, showed trading activity was 5.7% higher on “ESG news days” compared to “non-event days.” This contrast was even higher — up 8.1% — during the post-2020 period, following the pandemic.
Dive Insight:
Though the research paper confirms that retail investors incorporate ESG-related news in their decision making, it does not imply they give more weight to environmental and social responsibility over generating profits.
The findings indicate that investors purchase or sell securities based on how that impacts portfolio performance, “regardless of the ESG performance implications.
The report comes at a time when companies are debating whether sustainable investments are profitable investments and to what extent ESG factors should be incorporated within their frameworks and portfolio allocation decisions.
Though asset managers have yet to arrive on an overarching consensus on if ESG investments generate more profits, it is clear that the topic is driving both investment decisions and regulatory updates.
According to the research, retail investor reactions to ESG news events were greater in magnitude than to analyst forecasts and dividend announcements. However, reactions to ESG news updates fell behind those for earnings announcements and management guidance.
Though all forms of ESG news generated significant trade by retail investors, updates on leadership and governance gained the most traction and had the greatest impact on trading decisions. The researchers called the governance aspect of ESG “the most important for investors’ decision-making given its link to firm performance,” highlighting what factors shareholders and stakeholders consider the most when drawing financial judgements.
Governance is a critical component to how a company operates and executes its ESG framework as it involves taking into account the company’s overall business strategy, performance, ethics and leadership, and even transparency and accountability when it comes to how it reports ESG data. Good governance is not only relevant when it comes to ESG policies, but also when it comes to the financial success of a company. Research from S&P Global shows that companies that rank well below average in good governance characteristics are particularly prone to mismanagement and risk their ability to capitalize on business opportunities over time.
The paper also found that high-profile ESG events with extensive media coverage led to significant increases in investor attention and generated more retail trade.
