Risk and sentiment analysis of ESG momentum strategies

Abstract

In a world in a transition towards an economy greener, investors and firms are facing a growing challenge, climate change. Sustainable investment is growing, and increasingly investors are turning to this way of investing. This thesis aims at testing whether momentum returns have been impacted by climate change. Additionally, this research investigates how momentum returns are impacted and conditioned on samples with environmental scoring screening. This thesis was conducted on the US market with S&P 500 as a proxy during a ranging period from January 2003 to December 2021. Besides, a parallel analysis was conducted on the European market with the STOXX Europe 600 for proxy during the same period as the US market. The MCCC index from Ardia et al. (2020) is used to approximate the climate change concerns in the US market. The first part of this thesis shows that momentum strategies are consequently different within the screening sample and that a screening always leads to a lower Sharpe ratio. At the same time, the comparison with the European market shows that the same screening applied to different markets can lead to different results. Then, the second part presents a positive correlation between the momentum returns of stocks without ESG data and the media climate change concerns index, which is driven by the short side of the strategy, which is negatively correlated with the MCCC index. Additionally, over stocks with low environmental scores, past losers’ stock returns were negatively related to the MCCC but with a lower magnitude than stocks without ESG scores. The third part presents the three-year lagged MCCC index’s predictive power for past losers’ stock and momentum return, respectively negatively and positively predicted. Finally, these conclusions should be interpreted cautiously, as momentum effects were slightly significant. These results suggest a higher penalization on past losers’ stock returns for stocks without ESG data than for stocks with low environmental scores. Therefore, momentum strategies’ returns are positively impacted by this penalization over their short sides.