Do the Principles for Responsible Investing activate fund flows to build a sustainable future?: Using systematic methods to scope out the environmental, social and governance landscape and analyse the fund flow drivers
thesisposted on 2022-03-28, 19:39 authored by Daniel Walter Daugaard
Fund flows determine assets under management which is a primary concern for investmentmanagers. In contrast to fund flows, current investment fund literature is dominated by researchon return performance. This thesis therefore makes a concrete addition to the literature byresearching fund flows. The practical concern for this research is whether the United Nation'sPrinciples for Responsible Investing (PRI) drive fund flows towards socially responsibleinvesting (SRI) funds. Consequently, this research focuses on SRI funds and funds managed bysignatories to the PRI. There are significant endogeneity issues encountered in fund flowanalysis, so innovative techniques are necessary. SRI fund flows are an ideal context for creatingnatural experiments using environmental, social and governance (ESG) events and implementingsystem Generalized Method of Moments (GMM). The results from these techniques raise doubtsabout the ability of the PRI to influence SRI fund flows. This outcome questions the potential forPRI and other intergovernmental initiatives to meaningfully contribute to sustainabledevelopments.Chapter 2 of this thesis applies a scientific and replicable methodology to reveal the underlyingand emerging themes in the newly developing literature on ESG and SRI. The research to datehas maintained a limited focus on return performance (Capelle-Blancard & Monjon, 2014). Awider range is necessary before research can properly inform investors, companies andregulators. This chapter contributes to this challenge by systematically exploring the literature toreveal a richer array of topics: the heterogeneous nature of ESG investing, its costs and motivations, and its management literature origins. In addition, five emerging themes are identified: the human element, climate change, fund flows, fixed income and the rise of non-Western players. While each theme has the potential to become a successful new stream ofresearch, this systematic review has established a valuable research agenda for the current thesis- fund flow analysis.Chapter 3 examines whether PRI designated SRI investment managers receive extra fund flows.While investors have a great appetite for SRI, there is significant cynicism of investmentmanagers. Investors question whether investment managers are genuine about SRI and whethertheir investment processes are effective. Into this maelstrom of uncertainty enters the PRI: anintergovernmental initiative attempting to improve investment practices by signalling toinvestors which investment managers have quality SRI processes. Effective PRI signalling willattract more flows to the funds managed by PRI signatories, thus motivating investmentmanagers to sign the PRI and maintain their inclusion as signatories. In turn, PRI could influenceand improve the SRI processes of these investment managers. However, system GMM tests do not demonstrate extra flows to the PRI designated investment managers. This result raises doubtsabout the PRI effectively attracting funds to their signatories. The discussion in this thesistherefore draws on signalling theory to provide insights as to why this result occurred as well aspathways to improve PRI's signalling power.Fund flow analysis suffers from all three main forms of endogeneity: dynamic endogeneity,simultaneity and unobserved heterogeneity. Chapter 3 mitigates the effects of endogeneity byimplementing a sophisticated econometric technique: system GMM. While this approach is wellaccepted in finance literature there is still the possibility that the current finding of no significantresults could be due to simultaneity (Demsetz, 1983). An alternative to sophisticated econometrics is to employ natural experiments. Wintoki et al. (2012) describes naturalexperiments as the "gold standard" for addressing endogeneity problems. The most effectivenatural experiments collate many instances of the experiment (Heider & Ljungqvist, 2015).Chapter 4 therefore builds upon the methodology of Chapter 3 by establishing an experimental setting relevant for SRI fund flows.Chapter 4 creates experiments using ESG events. SRI fund analysis is an ideal candidate fornatural experimentation. A longitudinal collection of ESG events act as experimental shocks on investor preferences. A series of high profile ESG events are likely to motivate the choice of SRI funds over more conventional funds. The exogenous nature of these events should mitigate theconfounding effects of endogeneity and thereby clarify our understanding of what drives SRI fund flows. This chapter demonstrates that the ESG events motivate the choice by investors of SRI over conventional funds. The result shows the ESG events create a successful natural experiment platform.The focus of Chapter 4 is to test whether investment firms signing the PRI experience superiorfund flows. The ESG natural experiments are therefore applied to test if investors prefer an SRI fund managed by a PRI signatory. The results do not reveal a significant additional flow to SRI funds managed by PRI signatories. Further, the natural experiments show a negative impact onconventional retail funds when managed by a PRI signatory. These findings raise doubts as tothe value of investment managers signing the PRI and questions the potential for the PRI toeffectively influence SRI investment practices. In a broader sense, the findings raise doubts thatthe PRI and other similar intergovernmental initiatives can meaningfully contribute to developing a sustainable world.