Investigation of Socially Responsible Investment Markets (SRI) Using Dynamic Conditional Correlation (DCC) Method: Implications for Diversification

Abstract

Problem statement: Over the last ten years there has been a phenomenal growth in the amount of funds placed in SRI globally estimated to be around US$6.5 trillion while around US$55 billion in the Australian market. Accurate knowledge of correlation of the Australian SRI market with other SRI markets overseas is crucially important for Australian (SRI) investors for international portfolio diversification since portfolio diversification theory posits that the lower (higher) the correlation between markets, the higher (lower) the gains to be made. The study examines the relationship of the Australian SRI market with fourteen other markets-Canada, Denmark, France, Germany, Hong Kong, Ireland, Japan, Netherlands, Norway, South Africa, Sweden, Switzerland, United Kingdom and the United States. Approach: The relationships of the Australian Socially Responsible Investment (SRI) market with other SRI markets worldwide during the period 1994-2009 are examined based on the dynamic conditional correlation multivariate GARCH model (DCCMVGarch). In the DCC method, the multivariate conditional variance estimation is simplified by estimating univariate GARCH models for each market. Using the transformed residuals resulting from the first stage, the authors can estimate a conditional correlation estimator. The standard errors for the first stage parameters remain while the standard errors for the correlation parameters are modified. Results: Our results showed that the Australian market experienced a surge in correlation with all other markets during the global financial crisis. During the period of study, the correlation of Australia with Canada, Denmark, Norway and the United Kingdom increased over time while its correlation with other countries remained stationary. This implies that the Australian SRI market is becoming more integrated with those of Canada, Denmark, Norway and the United Kingdom. Therefore, these overseas markets provide less portfolio diversification benefits to Australian SRI investors while the other markets still offer some opportunities. Conclusion/Recommendations: This study examined the relationship of the Australian Socially Responsible Investment (SRI) market with other SRI markets worldwide during the period 1994-2009 based on dynamic conditional correlation multivariate GARCH model that provides accurate correlations over time that can be incorporated into portfolio models. Australian SRI market was analyzed with fourteen other markets around the world such as Canada, Denmark, France, Germany, Hong Kong, Ireland, Japan, Netherlands, Norway, South Africa, Sweden, Switzerland, United Kingdom and the United States. The results showed that the Australian market experienced a spike in correlation with the other markets during periods of market distress; for example, during the recent global financial crisis. In spite of the fluctuations in the correlations of Australian with the other markets the correlations generally remain below 1. Australia's correlation with Denmark, Norway and Japan in...

Can Sustainable Investment Yield Better Financial Returns: A Comparative Study of ESG Indices and MSCI Indices

“…A good amount of research has studied the return and volatility linkages and comparisons among the general market indices and sustainability indices. For example, Charlo et al (2015Charlo et al ( , 2017; Fowler and Hope (2007); Lopez et al (2007); Mensi et al (2017); Santis et al (2016); Schmid et al (2017); de Souza Cunha and Samanez (2013); la Torre et al 2016, and Tularam et al (2010) study the sustainable indices in terms of their risks and returns, and their impact on the market as a whole. Sustainable investment is a potential solution to social and ecological issues that transforms the financial markets to have more accountability of their impacts and hence, more research in this field is required to develop it as an applied field of investment (Talan and Sharma 2019).…”

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“…Extant literature has studied the return and volatility linkages and comparisons among the general market indices and sustainability indices. For example, Charlo et al (2015); Lopez et al (2007); Santis et al (2016); de Souza Cunha and Samanez (2013) and Tularam et al (2010) study the sustainable indices in terms of their risks and returns, and their impact on the market as a whole. The sustainable and the conventional indices are also compared by evaluating the performance of the companies included in each of these indices based on their respective financial ratio analysis and overall business performance (Martinez-Ferrero and Frias-Aceituno 2015; Pilar Marti et al 2015;Ransariya and Bhayani 2015;Skare and Golja 2012).…”

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A Measure of Monotonicity of two Random Variables

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