QFIP 133 - ESG Criteria - Why Investors Should Care

Question 1

Describe a few reasons why it is important for firms and Investors to care about ESG criteria

Answer 1

• Firms may produce public bads, even when following regulation rules
  
  • Local protests and social media shaming can hurt these firms’ images and profits
• Stocks are long lived assets where most cash flows occur in the distant future
  
  • These long horizon cash flows are difficult to forecast and will be impacted by changes in regulations and socially acceptable business practices
  • Well governed, socially responsible firms are better adapted to changing regulatory conditions and consumer tastes
• Many consumers feel an ethical obligation to shift production toward lower emissions
• The possibility of stranded assets if a government takes over corporations that are not operating efficiently
  
  • Cities may takeover local energy companies that generate too much pollution
  • In UK and Germany, policymakers are working on shutting down coal plants

Question 2

Describe the case study of palm oil in Indonesia, and what it demonstrates about ESG criteria

Answer 2

The case of palm oil in Indonesia illustrates the impact societal and government pressure can have on firm behavior

• The production of palm oil requires a significant amount of deforestation to create farmland
• However, deforestation is one of the largest drivers of carbon emissions
• In response, many companies have pledged to stop buying palm oil from producers who cause deforestation
• Many international governments are working on persuading the Indonesian government to adopt regulatory changes to limit deforestation

Question 3

Explain why coal firm stocks performed poorly during the months after Donald Trump won the 2016 presidental, despite Trump passing coal-friendly regulation

Answer 3

Despite coal-friendly regulation, the general trend in the nation has been to focus on developing more environmentally friendly alternatives

• Coal is now being out-competed by natural gas
• Countries like China are shutting down coal plants, hurting the global demand for coal