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The Price of Ethics : Evidence from Socially Responsible Mutual Funds

Author

Listed:
  • Renneboog, L.D.R.

    (Tilburg University, TILEC)

  • Ter Horst, J.R.

    (Tilburg University, TILEC)

  • Zhang, C.

    (Tilburg University, TILEC)

Abstract

This paper estimates the price of ethics by studying the risk-return relation in socially responsible investment (SRI) funds. Consistent with investors paying a price for ethics, SRI funds in many European and Asia-Pacific countries strongly underperform domestic benchmark portfolios by about 5% per annum, although UK and US SRI funds do not significantly underperform their benchmarks. The underperformance of SRI funds does not seem to be driven by the loadings on an ethical risk factor. SRI funds do not suffer a cost of reduced selectivity nor do SRI funds managers time the market. There is mixed evidence of a smart money effect: SRI investors are unable to identify the funds that will outperform in the future, whereas they show some fund-selection ability in identifying ethical funds that will perform poorly. The screening activities of SRI funds have a significant impact on funds’ riskadjusted returns and loadings on risk factors: corporate governance and social screens generate better risk-adjusted returns whereas other screens (e.g. environmental ones) yield significantly lower returns.
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Suggested Citation

  • Renneboog, L.D.R. & Ter Horst, J.R. & Zhang, C., 2007. "The Price of Ethics : Evidence from Socially Responsible Mutual Funds," Discussion Paper 2007-012, Tilburg University, Tilburg Law and Economic Center.
    • Handle: RePEc:tiu:tiutil:bf970e18-a5f6-469a-87fb-e2699ce86761
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    References listed on IDEAS

    as
    1. Rob Bauer & Jeroen Derwall & Rogér Otten, 2007. "The Ethical Mutual Fund Performance Debate: New Evidence from Canada," Journal of Business Ethics, Springer, vol. 70(2), pages 111-124, January.
    2. Michael J. Brennan & Walter N. Torous, 1999. "Individual Decision Making and Investor Welfare," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 28(2), pages 119-143, July.
    3. Bauer, Rob & Otten, Roger & Rad, Alireza Tourani, 2006. "Ethical investing in Australia: Is there a financial penalty?," Pacific-Basin Finance Journal, Elsevier, vol. 14(1), pages 33-48, January.
    4. Bauer, Rob & Koedijk, Kees & Otten, Roger, 2005. "International evidence on ethical mutual fund performance and investment style," Journal of Banking & Finance, Elsevier, vol. 29(7), pages 1751-1767, July.
    5. George A. Akerlof, 1980. "A Theory of Social Custom, of which Unemployment may be One Consequence," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 94(4), pages 749-775.
    6. Brown, Stephen J, et al, 1992. "Survivorship Bias in Performance Studies," The Review of Financial Studies, Society for Financial Studies, vol. 5(4), pages 553-580.
    7. Zakri Y. Bello, 2005. "Socially Responsible Investing And Portfolio Diversification," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 28(1), pages 41-57, March.
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    Cited by:

    1. Richard Copp & Michael L. Kremmer & Eduardo Roca, 2010. "Should funds invest in socially responsible investments during downturns?," Accounting Research Journal, Emerald Group Publishing Limited, vol. 23(3), pages 254-266, November.
    2. Renneboog, L.D.R. & Ter Horst, J.R. & Zhang, C., 2007. "Socially Responsible Investments : Methodology, Risk Exposure and Performance," Other publications TiSEM 1ff75080-22db-4909-9f13-a, Tilburg University, School of Economics and Management.
    3. Renneboog, L.D.R. & Ter Horst, J.R. & Zhang, C., 2007. "Socially Responsible Investments : Methodology, Risk and Performance," Other publications TiSEM 684d2aba-7b82-4306-b6a0-d, Tilburg University, School of Economics and Management.
    4. R. Berry & F. Yeung, 2013. "Are Investors Willing to Sacrifice Cash for Morality?," Journal of Business Ethics, Springer, vol. 117(3), pages 477-492, October.
    5. Sylvain Marsat & Benjamin Williams, 2013. "CSR and Market Valuation: International Evidence," Post-Print hal-02156596, HAL.
    6. Vincenzo D'Apice & Giovanni Ferri & Mariantonietta Intonti, 2021. "Sustainable disclosure versus ESG intensity: Is there a cross effect between holding and SRI funds?," Corporate Social Responsibility and Environmental Management, John Wiley & Sons, vol. 28(5), pages 1496-1510, September.

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    More about this item

    Keywords

    ethics; mutual funds; socially responsible investing; investment screens; smart money; risk loadings;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • A13 - General Economics and Teaching - - General Economics - - - Relation of Economics to Social Values
    • Z13 - Other Special Topics - - Cultural Economics - - - Economic Sociology; Economic Anthropology; Language; Social and Economic Stratification

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