Empirical Analysis of ESG and Financial Performance

Mathias Dyrhol Paulsen & Øystein André Pettersen

Student thesis: Master thesis


Globally, investors and financial markets are directing increasingly more attention towards responsible investments. The term “responsible investing” is often interpreted as environmental, social and governance (ESG) concerns for investment decisions with a long-term perspective. The concept has become increasingly more relevant among consumers, government, investors and stakeholders. The increased focus is not based on empirically superior relationships between risk and return, but rather on a shift in demand for responsible investments with a more long-term perspective. Previous studies focusing on the relationship between ESG and financial performance are split into three distinctions; positive, neutral and a negative relationship. These three counterparts find theoretical arguments and statistical evidence supporting their results, and a clear conclusion regarding the relationship is yet to be made. This thesis examines the relationship that has puzzled the academia, with a thorough and critical review of existing literature on ESG investing. The empirical analysis examines portfolios with varying degrees of ESG performance, where the performance has been identified by the companies’ respective ESG and controversy score. These numbers are provided by Refinitiv, which is the successor of Asset 4, and are collected through Thomson Reuters Datastream. By application of traditional asset pricing models, namely the CAPM, Fama & French three-factor, Carhart four-factor and Fama & French five-factor model, the return on various portfolios has been controlled against known risk factors. Moreover, both ESG and controversy factors have been developed to study the relationships in greater depth. The results find evidence that implies a negative relationship between high ESG scores and excess returns. However, this result is not evident in the robustness tests, where the portfolios are divided into sub-periods and classified into different portfolio sizes. In contrary to previous findings, the analysis finds evidence that the companies with the absolute lowest ESG scores have a negative excess return. Nevertheless, the negative alpha is not substantially different from zero. There is no evidence in the analysis that can provide an answer to the question of whether or not controversies have any effect on the excess return. The results are more supportive of the literature that implies a negative correlation between increased ESG initiatives and financial performance measured by excess returns. However, the question of whether ESG is priced in by the financial market remains open for further investigation.

EducationsMSc in Finance and Strategic Management, (Graduate Programme) Final Thesis
Publication date2020
Number of pages126