Ethical investment and returns: evidence and comparison study of the USA, Germany and China
Authors:   , Itzenga Ann-Kathrin 
Published: February 2023

With 10% of worldwide funds being Ethical funds and Ethical Investing accounting for almost one-third of all professionally managed U.S. assets, Ethical Investment is one of the fastest-growing investment strategies. However, existing literature on its effects on investment returns is far from conclusive, partly because different definitions of ethical investment, different screening methods, varying assessments of ethical behaviour, varying time frames, differing return metrics, and studied single country were employed. Furthermore, the neglection of the effects of industry and partial neglection of roles of company size might contribute to the contradicting results reported in the literature. To address some of the problems, this research aims to start by building a comprehensive ethical score dataset for the USA, Germany and China, which enables comparison studies of these countries on the same footing. Industries and size effects on a firm’s ethical behaviour with respect to the Slack Resource Theory and the Small Company Bias are tested. This research employs multiple multivariate OLS-regressions, Score analysis, Sensitivity analyses, Kruskal-Wallis test and carries out a comparison study on the USA, Germany and China. The findings show that over time there is generally an increase in ethical behaviour measured by the Ethical Scoring System. However, ethical behaviour also varies among countries. The Sensitivity Analysis, the OLS-regressions as well as the Kruskal-Wallis Test confirm significant differences between the countries and its implications on the impact of ethical behaviour on the financial performance. While the Sensitivity Analysis finds that in the USA, an increase in Ethical Score results in a decrease in return, Germany shows the opposite. China shows mixed results depending on the return metric. When looking at the results of the OLS-regressions, the results are mixed but show that the Ethical Score has largely no impact. Combining the Sensitivity Analysis results and the regression results, it appears that the Ethical Score is not insignificant itself as it has impact, as shown in the Sensitivity Analysis. However, when other variables are introduced, it appears that these other factors explain the company’s return better, making the Ethical Score less significant. Additionally, this study finds a varying impact on the return across industries confirming the neglected importance of this factor. The Consumer Staples and Energy industry show no impact of ethical behaviour on the return, while the Consumer Discretionary, Finance and Industrials Industry indicate that ethical behaviour is penalised while unethical behaviour is financially rewarded. The HealthCare, Information Technology, Telecommunication, and Utility industry mainly show that ethical behaviour is financially rewarded while unethical behaviour is penalised. However, these results are not valid in each of the three countries. They depend on the country and the return metric. Further, this thesis tests the roles of company size on their Ethical Behaviour. Two conflicting theories in literature are tested: The Slack Resource Theory and the Small Company Bias. This thesis uses four cross-sectional OLS-regressions and employs multiple size measurements, namely revenue, market capitalization, number of employees, and total assets. This thesis cannot establish conclusive evidence to confirm or reject either of these two theories as the results are equivocal and differ amongst size measurements and countries. This thesis contributes theoretically by developing an own definition of Ethical Investment, methodologically by developing a comprehensive Ethical Scoring System and applying multiple forms of analysis with multiple size and return metrics, and empirically by integrating country, industry and size as impact factors. The findings of this thesis contribute to the further understanding of the impact of ethical behaviour on financial performance based on a comprehensive self-created ethics scores dataset, comparing three major economies in the world and applying different ways of return measures. The findings provide rich implications to the investment industry when they attempt to construct a global Ethical investment portfolio and help retail investors to form better investment decisions.