Investors that ditch companies with poor ESG standards in the hope of forcing them to do better should look away now: According to new research, you’re wasting your time.
Even as billions of dollars diverts toward firms scoring higher on environmental, social and governance measures, the funding costs for bad actors has hardly budged, a study has found.
It suggests that shifting behaviour in the corporate world is unlikely to be achieved by portfolio allocation — which has long been the dominant approach on Wall Street and beyond.
“A substantial increase in the amount of socially conscious capital is required for the strategy to affect corporate policy,” authors Jonathan Berk and Jules Van Binsbergen wrote in the paper. “Given the current levels of socially conscious capital, a more effective strategy to put that capital to use is to follow a policy of engagement.”
The research, published in late August, addresses one of the key dilemmas at the heart of ESG investing: Is it better to punish companies that fall short by selling out, or to stay vested and try to bring about improvements through active ownership?
Perhaps because it’s easier, a lot of ESG strategies have evolved around the former approach. So Berk and Van Binsbergen — from the Stanford Graduate School of Business and the Wharton School, respectively — started with the assumption that effective divesting should result in higher costs of capital for the company that’s been sold.
By tracking the amount of “socially conscious capital,” the targeted companies and those firms’ correlation to the rest of the market, the pair found the impact on the cost of capital was “too small to meaningfully affect real investment decisions.”
It’s a conclusion with plenty of anecdotal evidence to back it up.
This year some of the biggest emitters of carbon dioxide in the world have enjoyed sizable share-price gains, including ExxonMobil, Chevron and ConocoPhillips. Glencore, which has been blacklisted by the Norwegian Sovereign Wealth Fund since May 2020 due to its exposure to coal, is up more than 50 per cent.
Meanwhile, the most eye-catching corporate changes have been brought about by active investors. Engine No. 1 famously won three board seats at Exxon earlier this year after a long proxy fight. Its debut exchange-traded fund pledges to use its shareholder rights to affect change, rather than divestment. Its ticker? VOTE.
In the paper, “The Impact of Impact Investing,” Berk and Van Binsbergen conclude that divesting is unlikely to have a meaningful impact in the future because socially responsible capital is such a small part of the total.