posted by Jeff MacDonagh
I was pleasantly surprised to see FAJ publish this piece on the portfolio management implications (via backtesting) of using Innovest ratings. "The Eco-Efficiency Premium Puzzle" (Derwall, Guenster, Bauer, and Koedijk) is another decent article to contribute to our growing body of literature showing the legitimacy of using non-traditional data in stock picking. Moreover, I think the authors are correct is raising the possibility of "mispricing" based on the degree of outperformance and their use of a multifactor model to control for several traditional financial factors.
Here's the abstract:
Does socially responsible investing (SRI) lead to inferior or superior portfolio performance? This study focused on the concept of "eco-efficiency," which can be thought of as the economic value a company creates relative to the waste it generates, and found that SRI produced superior performance. Based on Innovest Strategic Value Advisors' corporate eco-efficiency scores, the study constructed and evaluated two equity portfolios that differed in eco-efficiency. The high-ranked portfolio provided substantially higher average returns than its low-ranked counterpart over the 1995–2003 period. This performance differential could not be explained by differences in market sensitivity, investment style, or industry-specific factors. Moreover, the results remained significant for all levels of transaction costs, suggesting that the incremental benefits of SRI can be substantial.