Essays on ESG Dynamics in Financial Markets

Abstract

The dissertation consists of four chapters that contribute to the literature on Environmental, Social, and Governance (ESG) dynamics in financial markets. In the first chapter, I explore how E&S concerns spread in a multilayer network of firms based on an epidemiological model. The paper builds the network using four layers: geographic proximity, common ownership, director interlock, and industrial peers. Based on E&S shareholder proposals targeting S&P 500 firms from 2005 to 2020, I find that E&S concerns (the ‘disease’) will die out after several waves. Besides, firms that are more central in the network, firms with larger market capitalization, and firms with higher Big Three (i.e., BlackRock, State Street, and Vanguard) ownership have a greater propensity to be targeted. During periods with high media coverage on ESG, the network characteristics have more prediction power on new transmissions. Network characteristics are more significant predictor of E issues than S issues. I further find that common ownership has a stronger effect in propagating E&S concerns compared to other channels. However, there is no evidence of improved accounting performance or increased ESG scores in the following years after the E&S engagements. In the second chapter, we examine proxy contests and the value of shareholder voting rights (i.e., the voting premium) estimated using option prices. Our sample consists of 1,075 proxy contests for board seats at U.S. publicly listed firms from 1994 to 2020. We find that voting premium can help to predict the outcomes of proxy contests. Specifically, increased voting premiums around campaign announcements are associated with a higher likelihood of the contest being subsequently settled or going to a vote and a lower likelihood of the contest being withdrawn. Further, the likelihood of the dissidents being elected if the contest goes to a vote increases with the voting premium around the record date. In the third chapter, we study the implications of industrial pollution on stock returns. We use the environmental indicators of the RSEI model developed by the US EPA, which provides pollution data that combines the scale of pollutive activities with hazards and risks emanating from these activities, to examine whether financial markets price damages to human health. Based on a sample of 17,823 firm-year observations from 1991 to 2020, we show that financial markets only price the quantity of toxic chemical emissions while failing to price the hazards and risks to human health. Evidence suggests that the pollution premium only exists in the early stage of our sample period and is only based on emission intensity but not raw emissions. We suggest a refined index pertaining to firm pollution, which considers hazards and risks to human health, should be formed and relate the new index to understand corporate governance and profitability implications. In the fourth chapter, we provide a survey on ESG. Over the past two decades, the topics of ESG and Corporate Social Responsibility (CSR) have attracted an increasing amount of interest, reflecting a growing sensitivity of investors and corporations towards environmental, social, and governance issues. The survey offers an overview of the academic literature on ESG/CSR through the lens of investors, institutions, and firms. We first discuss the definitions of ESG and CSR and their relationship to each other. We next describe how ESG is measured and note problems with the measurement and quality of ESG data and discrepancies between different ESG measures. We then turn our attention to investors, examining what types of investors invest in ESG and the role of institutional investors in ESG. From the firm’s perspective, we discuss why firms themselves conduct ESG. We also summarize the literature on the impact of ESG on firms: how ESG affects firms’ financing, disclosure and reporting activities, and firm performance. Finally, we describe other consequences of the focus of ESG and CSR on firms and investors.