ESG INTEGRATION: ESG SCORE MOMENTUM FACTOR AS ASSET CHARACTERISTIC AND OPTIMAL PARAMETRIC PORTFOLIO - AN EMPIRICAL RESULT OF THE US STOCK MARKET.

Abstract

Sustainable finance has become the rising concern of the global markets. The term ESG investment has been discussed in many international forums. The number of ESG investment assets and ESG investment products is increasing continuously. However, the question of integrating ESG information into investment products is being put ahead together with the ESG data challenges. This report investigates the potential of integrating the ESG factor into the investment process using parametric weight allocations. The parametric portfolio is a simple acclaimed approach proposed by Brandt et al. (2009). Based on the US stock market data in the period of 2008 -2020, at the individual stock level, I empirically investigate the performance of investment strategies that consider ESG Score and ESG Score Changes as characteristics. By integrating ESG information as additional characteristics, using the parametric allocations approach with an optimal Sharpe Ratio objective, I found a performance-enhancing effect of the ESG Score Change on portfolio performance in the US market. Even though policy that focuses on the firm’s ESG Score improvement might impact the available stocks as available options, the net selective benefits are still positive. I thereby testify an approach for integrating ESG Score Change into the investment process and boost further research on different optimal objectives or different stock markets.