A trade-off between sustainability ratings and volatility in portfolio hedging strategies

Spyros Papathanasiou and Drosos Koutsokostas

International Journal of Banking, Accounting and Finance, 2024, vol. 14, issue 3, 370-406

Abstract: Given the growing popularity of sustainable investing in recent years, we investigate the role of sustainability ratings in the transmission of volatility across various significant markets within a time-varying parameter vector autoregressive approach. For this purpose, we sort 271 European-domiciled equity mutual funds based on their ESG score to construct equivalent indices and examine their interaction with the most traded asset classes such as equities, bonds, real estate, crude oil, gold, and currency, for the period 1/1/2010-5/31/2024. The empirical findings demonstrate moderate volatility spillovers, primarily transmitted from the ESG-low index, whereas the conventional markets absorb the diffused shocks. Our hedging analysis reveals that ESG stocks can effectively mitigate risk for investors holding long positions in crude oil, real estate, gold, and equities. While ESG-low produces higher hedging effectiveness than ESG-high for the overall period, including the pandemic, ESG-high has proven to be a better hedge during the armed conflict.

Keywords: ESG equity mutual funds; ESG score; crude oil; real estate; connectedness; hedging ability. (search for similar items in EconPapers)
Date: 2024
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