Practical analysis for investment professionals
03 September 2019

ESG Investing: Can You Have Your Cake and Eat It Too?

Can you have your cake and eat it too?

The ongoing debate about environmental, social, and governance (ESG) investing sometimes feels like a rehash of that age-old rhetorical question.

Proponents of ESG data believe it can help investors better understand the risks and opportunities companies face and may even offer alpha generation potential. On the other hand, skeptics think ESG criteria limit the universe of available stocks and that such restrictions are bound to negatively impact returns.

To return to our metaphor, having the ESG cake means generating strong investment performance, while eating it too implies doing good from an ESG perspective.

So which is it? Can investors have it all?

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To answer this, we analyzed Refinitiv’s ESG database, which covers more than 7,000 public companies across the globe. Refinitiv generates ESG scores for each firm based on 178 data points. Companies are ranked on a 100-point scale relative to their peers, with a composite ESG score as well as separate category scores for environment, social, and governance, individually. The higher the score, the better the ESG ranking.

We divided the historical ESG ratings of all S&P 500 firms into four categories: Those with scores of 76 or above are labeled “Excellent”; between 51 and 75 are “Good”; between 26 and 50 are “Fair”; and 25 and below are “Poor.”

S&P 500 Holdings by ESG Score Category

The trend is clear: S&P 500 companies have improved their ESG metrics over time — probably because they recognize the increasing importance of such scores and have taken steps to boost them.

ESG Scores and Performance

So do companies with high ESG ratings outperform their lower-ranked counterparts?

For insight on this, we created a High ESG Portfolio composed of S&P 500 companies that score above the median and a Low ESG Portfolio made up of firms that rate below it.

We built these portfolios on a monthly basis, from January 2008 to December 2018, using the ESG score of the companies. We then measured each portfolio’s returns over the next month, repeating the process for 132 months. We found that the High ESG Portfolio outperformed the Low ESG Portfolio by 16 basis points (bps) per year.

Performance of S&P 500 High and Low ESG Portfolios

Annualized Return
(Geometric Mean)
High ESG Portfolio7.34%
Low ESG Portfolio7.18%

The geometric mean return of the High ESG Portfolio exceeds that of the Low ESG Portfolio even though the former’s arithmetic average return is lower.

Performance and Volatility of S&P 500 High and Low ESG Portfolios

Arithmetic Mean ReturnVolatility (Annualized Standard Deviation)Geometric Mean Return
High ESG
Low ESG Portfolio 8.32%16.38%7.18%

This counterintuitive result can be attributed to the difference in volatility. The High ESG Portfolio had much less, so its returns compounded better than those of the Low ESG Portfolio.

Over the long run, the cumulative performance of the two ESG portfolios is quite similar. We explore these and related results in much more granular detail in a longer companion piece.

High ESG Scores vs. Low ESG Scores: Cumulative Growth of $1

Do High ESG Score Equal Higher Quality?

Does the lower volatility of the High ESG Portfolio indicate higher quality?

There is indeed a positive correlation. We looked at the monthly payoffs of the Quality factor relative to our two portfolios and found a 0.41 correlation between the factor and the value added by the High ESG Portfolio compared to the Low ESG Portfolio. Additional testing of the Quality factor suggests an association of high ESG scores with higher quality.

Anecdotally, the High ESG Portfolio adds value more often during stock market declines. The correlation between stock market returns and the value added by the High ESG Portfolio over the Low ESG Portfolio is –0.27. This is statistically significant, with a t-statistic of 3.16. The phenomenon was most pronounced during the global financial crisis (GFC) in 2008 and the sharp recovery of 2009.

S&P 500 Companies: Performance during the Global Financial Crisis

2008 Return2009 ReturnCumulative Return
High ESG Portfolio –35.63%24.78%–19.68%
Low ESG Portfolio–42.15%34.18%–22.37%

Addressing Some Common Concerns about ESG Investing

But what about ESG screens? By reducing the number of investable firms, do they act as a drag on performance?

The High ESG Portfolio’s investable universe was 26% smaller as measured by market capitalization due to the above-the-median ESG score requirement. That’s a significant reduction. Yet the High ESG Portfolio still performed well.

So, at a practical level, the theory that shrinking the selection of potential stocks based on ESG criteria will lead to lower returns is not supported by the historical data.

Moreover, active investors can incorporate ESG information in a holistic manner rather than mechanically screening firms out. This should render the concern a moot point for most investors.

Ad tile for ESG and Responsible Institutional Investing Around the World: A Critical Review


As ESG investing grows more popular, investors are right to question whether it can be done without sacrificing returns. Our analysis shows that it can.

  • ESG investing, even in a rudimentary, mechanical form, has generated returns that are highly competitive relative to the benchmark.
  • Firms with high ESG scores demonstrate lower volatility and possibly higher quality.

Furthermore, based on our experience managing stock portfolios for more than 20 years, we believe active investors can use ESG data to better gauge company quality and apply that information, along with other relevant data, to make improved investment decisions.

The ESG debate is not a choice between having your cake and eating it too. Rather, ESG data is the icing on the cake: When prepared and presented well, it enhances both the having and the eating.

For more on environmental, social, and governance (ESG) investing from Gautam Dhingra, PhD, CFA, and Christopher J. Olson, CFA, don’t miss “ESG Investing: A Constraint or An Opportunity?”

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: ©Getty Images/ Tichakorn Khoopatiphatnukoon/EyeEm

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About the Author(s)
Gautam Dhingra, PhD, CFA

Gautam Dhingra, PhD, CFA, is the founder and CEO of High Pointe Capital Management, LLC. He developed the firm's pioneering investment approach based on the concept of Franchise Quality, and under his leadership, High Pointe has built an enviable investment performance record. Dhingra served on the faculty member at Northwestern University’s Kellogg School of Management for two years. In this role, he designed and taught The Business of Investing course in the school’s MBA curriculum. His research interests include ESG investing and valuation of intangible assets. He holds a PhD in finance, with specialization in investments and econometrics, from the University of Florida’s Warrington College of Business. At Warrington, he taught two courses in securities analysis and derivatives.

Christopher J. Olson, CFA

Christopher J. Olson, CFA, is a principal and portfolio manager at High Pointe Capital Management. Prior to High Pointe, he was a portfolio manager at Columbia Wanger Asset Management in Chicago for 15 years where he managed both equity and balanced mutual funds. He began his investment management career at Yasuda Kasai Brinson in Tokyo in 1991, and later joined the parent company, Brinson Partners, to help start the firm’s emerging markets investment strategy. He has lived and worked in Sweden, Japan, and Taiwan. He is proficient in Mandarin Chinese and has studied five other foreign languages. Olson received an MBA from the Wharton School of Business with distinction and an MA in international studies from the School of Arts and Sciences, both at the University of Pennsylvania. He graduated from Middlebury College with a BA in political science, summa cum laude. He earned his CFA charter in 1998 and is a member of CFA Chicago. His civic responsibilities include his role as chair of the board at Swedish Covenant Hospital in Chicago and as trustee at Lincoln Academy in Maine.

5 thoughts on “ESG Investing: Can You Have Your Cake and Eat It Too?”

  1. Ishwar Chhikara says:

    Hello Gautam and Christopher – this analysis seems to be too simplistic. I would argue that you need to at a minimum control for sector exposures and sector weights in high and low ESG universes. It’s highly likely that Tech companies have a relatively higher ESG score and have skewed the results. Again, I am not familiar with Refinitiv methodology as to how they calculate the ESG scores (including weights of E, S and G in a given sector) and what factors they take into consideration under each pillar.

    1. Lucas Howarth says:

      I agree with Ishwar, and I go would go further – an analysis of the impact of each ESG factor is required.
      Evidence shows good governance leads to higher relative returns, so it would be far too simplistic to say a higher ESG score, where most retail investors focus on the E and the S, drives higher returns.

  2. Eman Ghaith says:

    Hi Gautam and Christopher, i would like to know if you have adjusted for sector in you analysis.

  3. Mohd Ashraf Abbas Abu Hassan says:

    Hello Gautam and Christopher,

    I agree with the above, adjusting for sector could impact both research questions answers and could improve findings. Also i would look into companies size and survival biases

    Best regards,

  4. Dear Ishwar, Lucas, Eman and Mohd.

    Thank you for your comments.

    The paper has within it a link to a more detailed analysis that provides more granular detail that you might find useful. I have provided that link below here

    Also, your idea that the analysis adjust for sectors does indeed have merit; however, to do that the ESG dataset must be based on absolute scores, not relative to industry peers. The Refinitiv data for Environment and Social factors is relative to industry peers. Refinitiv has some valid reasons for using this methodology, but it makes it not useful for sector adjustments.

    There are many different ways we are parsing the ESG data and will be publishing more of our results in the coming months.

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