The outperformance of ESG-focused stocks has driven up valuations over the years. While investors may still invest in ESG-focused companies despite higher operating costs, research has shown that ESG characteristics tend to be inversely correlated with expected returns given the ESG premium.
There’s also some debate about what exactly constitutes an ESG investment. MIT’s Aggregate Confusion Project found a very low correlation between ESG ratings from top ratings agencies, underscoring the difficulty of evaluating ESG factors.
The COVID-19 pandemic has also had an uneven impact on ESG-focused companies. In healthcare, socially responsible hospitals and medical offices have closed for routine business and doctors’ revenue fell 50% to 90% in some cases. These dynamics could lead to consolidation in the market.
Despite these higher operating costs and other concerns, it’s difficult to quantify the impact on investors. ESG-focused companies may have more productive employees and less turnover. These could contribute to faster revenue growth and less hiring or training costs relative to non-ESG companies.
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