A Study of “Fossil Free” Equity Portfolio Performance

Abstract

A growing number of institutions now consider fossil free investing, a portfolio strategy that seeks to minimize exposure to companies that are sources of current and future carbon emissions, such as coal, oil, and natural gas companies. The strategy is a subset of the broader social responsibility investment movement, which seeks to balance environmental, social, and governance (ESG) factors alongside traditional financial analysis. Before implementing a fossil free strategy, institutions may want to know the historical impact of eliminating carbon-oriented stocks from a conventional equity portfolio. We compare the two investment strategies over the period from 2004 to 2017 and find that going fossil free causes no undue harm to the investor. The fossil free portfolio performs worse than the conventional equity portfolio in the early years, but the trend reverses in the later years. The long-term stock performance of Carbon Underground 200 firms also shows that firms added to the list in the later years experience significantly negative abnormal returns for the three years subsequent to the month of addition.

TOPICS: Portfolio theory, portfolio construction

Key Findings

• • Over the 13 years, 2004–2017, a fossil free portfolio had similar annualized returns and volatility, compared to a conventional equity portfolio.

• • Divided into two sub-periods, the fossil free portfolio did worse in the earlier years, but reversed this trend in later years.

• • The performance of carbon-heavy stocks changed over time. Such stocks performed worse in the later years than in the early years. This differential perhaps reflected institutional investors’ increased adoption of socially responsible investment tactics over time.