Is Exclusion Effective?

Abstract

Many believe that investors can contribute to a more sustainable world by divesting from firms with the worst sustainability profiles. However, exclusion comes down to a transfer of ownership from sustainability-minded investors to other investors, and it is not obvious how this is supposed to lead to changes for the better in society. This article critically examines the arguments for exclusion and concludes that the effectiveness of exclusion policies is questionable. Investors may well achieve more by exerting influence as an active shareholder through voting and engaging with firms.

TOPICS: ESG investing, portfolio theory, portfolio construction

Key Findings

• • Excluding firms with the worst sustainability profiles boils down to a transfer of ownership. It is not obvious how this is supposed to lead to changes for the better in society.

• • We challenge the effectiveness of four frequently used arguments in favor of exclusion policies: increasing a firm’s cost of capital, pushing a firm out of business, improving investment performance, and signaling stakeholders to change behavior.

• • Altogether, the effectiveness of exclusions is questionable. Investors may well achieve more by exerting influence as an active owner, through voting and engaging with firms.