On the Price of Morals in Markets: An Empirical Study
of the Swedish AP-Funds and the Norwegian Government Pension
Fund
Andreas G. F. Hoepner
1,2
•
Lisa Schopohl
1
Received: 12 January 2016 / Accepted: 3 July 2016 / Published online: 19 July 2016
The Author(s) 2016. This article is published with open access at Springerlink.com
Abstract This study empirically analyses the exclusion of
companies from investors’ investment universe due to a
company’s business model (sector-based exclusion) or due
to a company’s violations of international norms (norm-
based exclusion). We conduct a time-series analysis of the
performance implications of the exclusion decisions of two
leading Nordic investors, Norway’s Government Pension
Fund-Global (GPFG) and Sweden’s AP-funds. We find that
their portfolios of excluded companies do not generate an
abnormal return relative to the funds’ benchmark index.
While the exclusion portfolios show higher risk than the
respective benchmark, this difference is only statistically
significant for the case of GPFG. These findings suggest
that the exclusion of the companies generally does not
harm funds’ performance. We interpret these findings as
indicative that with exclusionary screening, as practiced by
the sample funds, asset owners can meet the ethical
objectives of their beneficiaries without compromising
financial returns.
Keywords ESG GPFG AP-funds Exclusions
Exclusionary screening Divestment Negative screening
Norm-based exclusions Sector-based exclusions SRI
Introduction
Over the last few decades, the general public has increas-
ingly become aware of the social, environmental and eth-
ical impacts of the investment and financing decisions of
large financial institutions. Through movements like
Occupy Wall Street, the public is gradually calling into
question the ability of these players to serve the economy
and society as well as to act in the best interests of their
ultimate beneficiaries (Blanc and Cozic 2012). This
development coincides with the emergence of the idea that
investors are indirectly responsible for the corporate mis-
conduct of the companies they hold. Especially public
pension funds and other large public asset owners, such as
Sovereign Wealth Funds (SWF), have been openly accused
of complicity when financing companies that are involved
in unethical behaviour, including violations of human
rights and labour rights, gross corruption and environ-
mental pollution. This investor group is especially sus-
ceptible to public scrutiny as it invests large sums of state-
owned assets for the benefit of the general public, the
funds’ ultimate beneficiaries (Richardson 2011). On a
global scale, this scrutiny has strongly increased since the
outbreak of the financial crisis in 2008—although it is not a
new development in the Nordic countries. Investments
made by Norway’s Government Pension Fund-Global
(GPFG) and the Swedish AP-funds regularly make the
headlines in the media.
1
The GPFG is the SWF of Norway,
& Lisa Schopohl
l.schopohl@icmacentre.ac.uk
Andreas G. F. Hoepner
a.hoepner@icmacentre.ac.uk
1
Henley Business School, ICMA Centre, University of
Reading, Reading RG6 6BA, UK
2
Mistra Financial Systems, Stockholm School of Economics,
Box 6501, Stockholm SE-113 83, Sweden
1
For example, the Swedish AP-funds have been heavily criticised for
their holdings in Total AS, after the company was incriminated of
corruptive practices and collaboration with the dictatorship in Burma
(Bengtsson 2008b). Similarly, the Norwegian GPFG has come under
attack for owing shares in the mining company POSCO after
allegations against the firm emerged regarding its involvement in
human rights violations in India (Meller and Husson-Trarore 2013).
123
J Bus Ethics (2018) 151:665–692
https://doi.org/10.1007/s10551-016-3261-0
established to invest the revenues from Norway’s oil and
gas exploration with the objective to ensure the long-term
wealth of current and future generations of Norwegians
(Richardson 2011; Jensen 2016b). With assets worth
almost USD 900 billion, it is one of the largest SWFs in the
world.
2
Although slightly smaller in size, the Swedish AP-
funds which constitute the national pension system of
Sweden also rank among the largest global asset owners
(Severinson and Stewart 2012).
One reaction of these investors to the increased scrutiny
is divesting from companies associated with unethical
behaviour. For example, following several instances where
the Norwegian GPFG attracted attention for holding com-
panies involved in the production of controversial weapons
and tobacco, the Norwegian Government devised ethical
guidelines to ban these investments, together with invest-
ments in companies that contribute to serious human rights
violations, severe environmental damage, gross corruption
and other particularly serious violations of fundamental
ethical norms.
3
The Swedish AP-funds have similar
guidelines that require them to consider the ethical and
environmental implications of their investments (Sandberg
et al. 2014; Du Rietz 2016).
The growing popularity of exclusionary screening by
large institutional investors appears to be in contrast to the
general consent in the academic literature on socially
responsible investment (SRI) which positions that exclu-
sionary screening is an outdated approach.
4
This literature
argues that SRI has moved on to more sophisticated
strategies, such as active ownership and engagement as
well as positive screening and best-in-class investing (e.g.
Sparkes and Cowton 2004). In addition, a large part of the
literature concludes that exclusionary screening and espe-
cially screening on industries that offer products and ser-
vices considered as sinful and/or unethical financially hurts
investors as these ‘‘sin’’ stocks tend to offer superior
financial performance (e.g. Fabozzi et al. 2008; Adler and
Kritzman 2008; Hong and Kacperczyk 2009). By
excluding these firms from their investment universe, asset
owners might forgo profitable investment opportunities
‘‘and thereby sacrifice vast sums of wealth through time’’
(Adler and Kritzman 2008, p. 55). This finding poses a
potential conflict between the ethical and financial objec-
tives of these funds, given that their financial objective is
traditionally interpreted as the duty to maximise benefi-
ciaries’ long-term wealth.
This study attempts to address the question whether a
conflict truly exists between the ethical and financial
expectations faced by these asset owners. In other words,
can the funds incorporate the ethical views of their bene-
ficiaries without sacrificing financial returns? To answer
this question, we focus on one particular SRI approach that
is aimed at reducing investor’s exposure to unethical
business practices: exclusionary screening. In particular,
we analyse the performance implications of the exclusion
decisions by the Norwegian GPFG and the Swedish AP-
funds. These funds exclude companies either due to the
unethical nature of the sector that the company operates in
(sector-based exclusions) or due to the company’s
involvement in violations of ethical standards and norms
(norm-based exclusions). Our results suggest that the
excluded companies neither significantly under- nor out-
perform relative to the funds’ performance benchmarks.
These findings hold for the entire portfolio of excluded
companies and when separating the performance effect by
reason for exclusion. We interpret these findings as evi-
dence that by using specific forms of sector-based and
norm-based screens asset owners can meet both, their
beneficiaries’ ethical and financial objectives.
Our study makes several important contributions to the
academic literature on exclusionary screening. To the best
of our knowledge, we are the first study to systematically
analyse the performance effect of exclusionary screening
by two of the leading institutional investor groups, i.e.
public pension funds and SWFs. So far, the literature has
either constructed theoretical portfolios by applying
exclusionary criteria to a predefined investment universe
(e.g. Adler and Kritzman 2008; Fabozzi et al. 2008; Hong
and Kacperczyk 2009; Durand et al. 2013b; Salaber 2013;
Trinks and Scholtens 2015) or it has analysed the perfor-
mance of SRI mutual funds that apply exclusionary
screening (e.g. Barnett and Salomon 2006; Renneboog
et al. 2008b; Lobe and Walksha
¨
usl 2011; Humphrey and
Lee 2011; Capelle-Blancard and Monjon 2014; Humphrey
and Tan 2014). While our finding of an insignificant per-
formance effect is generally in line with findings derived
from the SRI mutual fund literature, we contribute to this
literature in several ways.
Firstly, as pointed out by Sparkes and Cowton (2004,
p. 50), ‘‘the rapid growth in pension funds [and SWFs] that
have adopted socially responsible criteria means that such
2
The most recent market values of GPFG’s assets can be obtained
via the following homepage: http://www.nbim.no/.
3
In early 2016, two new criteria have been included in GPFG’s
guidelines. One criterion targets conduct resulting in unaccept-
able greenhouse gas emissions at the aggregate company level. The
other criterion, a sector-based screen, focuses on mining companies
and energy producers with 30 % or more of revenues from thermal
coal (Norwegian Ministry of Finance 2016). As these exclusion
policies were introduced after the end of our sample period, we do not
include them in our empirical analysis. The latest version of the
guidelines for exclusion of companies from GPFG’s portfolio can be
found here: http://etikkradet.no/en/guidelines/.
4
For the purpose of this study, we apply the broad definition of SRI
used in Renneboog et al. (2008a, b) and Scholtens and Sieva
¨
nen
(2013). They define SRI as a way by which investors account for
environmental, social, governance (ESG) and ethical issues in the
investment process.
666 A. G. F. Hoepner, L. Schopohl
123
research can no longer be regarded as representative’’.
Secondly, public asset owners have a considerably differ-
ent relation to their beneficiaries than mutual funds
(Richardson 2011). Not only do they invest on behalf of a
far larger stakeholder group with non-uniform interests and
ethical standards (Bengtsson 2008a, b; Richardson 2011),
the ultimate beneficiaries of these funds also do not have
the option to ‘‘exit’’ the fund, in case they do not agree with
the fund’s investment objectives and/or are not willing to
bear potential costs of applying ethical standards (Clark
2004; Sandberg et al. 2014). As a consequence, the public
scrutiny and societal pressures on these public asset owners
are higher than for the average mutual fund (Blanc and
Cozic 2012; Hawley 2016). Finally, the exclusions of
GPFG and the Swedish AP-funds have a strong signalling
effect on other global asset owners with many investors
following their exclusion decisions (Bengtsson 2008a;
Scholtens and Sieva
¨
nen 2013; Jensen 2016b; Du Rietz
2016). Such domino effects of exclusion decisions are
hardly observed for SRI mutual funds, rendering the
exclusions of the investors studied in our sample of greater
importance to the overall financial markets as well as to the
corporations that are being excluded.
Our study also contributes to the emerging literature on
norm-based screening. This practice of divesting from
companies based on the company’s association to viola-
tions of international norms is said to have originated in
Scandinavia but it increasingly gains momentum among
other large asset owners (Blanc and Cozic 2012; Du Rietz
2016). Currently three studies explicitly address norm-
based screening. Capelle-Blancard and Monjon (2014)
study French SRI mutual funds and contrast the perfor-
mance differences between funds applying sector-related
screens and norm-based screens. The studies by Blanc and
Cozic (2012) and Meller and Husson-Traore (2013) com-
pare the application of norm-based screening across
European asset owners, however, without addressing the
performance effects of such exclusions. Thus, we are the
first to study the performance impact of norm-based
screening by large public asset owners.
Besides these conceptual contributions, we also address
some of the methodological concerns of previous studies
on exclusionary screening. Previous research on exclu-
sionary screening has either been criticised for neglecting
real-world investment restrictions (see the criticism by
Adamsson and Hoepner 2015, and Hoepner and Zeume
2014) or the inability to disentangle the performance effect
of the exclusionary screening from other fund-specific
factors such as manager skill (see Humphrey and Tan
2014). In comparison, by looking at the exclusion lists of
GPFG and the AP-funds we are able to exactly identify the
excluded companies, together with the reason and time of
exclusion, thus enabling us to abstract from confounding
fund-specific factors such as manager skill. At the same
time, we automatically account for real-world investment
restrictions by focussing on the funds’ actual divestments.
The remainder of the study is structured as follows.
‘‘ Literature Review’’ section provides an overview of the
literature on the special role of the GPFG and the AP-funds
in promoting ethical standards as well as on the perfor-
mance effects of exclusionary screening. In ‘‘Research
Questions and Hypotheses Development’’ section, we for-
mulate the research questions and develop testable hy-
potheses. ‘‘Data and Methodology’’ section introduces the
data and methodology used for testing the performance
implications of the exclusion decisions of the GPFG and
the AP-funds, while ‘‘Results’’ section presents the results
of the empirical analysis and a discussion on the perfor-
mance impact of exclusionary screening. We test the
robustness of our findings in ‘‘Robustness Tests
’’ sec-
tion. ‘‘Conclusion’’ section draws the main conclusions
based on the findings and discusses the implications of our
findings.
Literature Review
The GPFG and the AP-funds: Balancing Ethical
and Financial Objectives
Compared to other major financial markets such as the U.S.
or the U.K., relatively little research exists on the Scandi-
navian SRI market and its major players. Notable excep-
tions include the studies by Bengtsson (2008a, b) and
Scholtens and Sieva
¨
nen (2013) which analyse the historical
development of SRI and its drivers in the Scandinavian
market. More closely related to our study, Sandberg et al.
(2014) compare the legal environment regarding SRI in
Sweden with the fiduciary duty concept in Anglo-American
countries and particularly focus on the conflicting expec-
tations faced by the Swedish AP-funds regarding their
beneficiaries’ financial and ethical interests, while
Richardson (2011) discusses the tension between financial
and ethical demands for the GPFG. In addition, Jensen
(2016a, b) and Du Rietz (2016) provide overviews on the
current state of the SRI development in Scandinavia as a
whole, and in Norway and in Sweden in particular.
Besides, several studies review the investment framework
and policy guidelines of the GPFG (e.g. Clark and Monk
2010; Myklebust 2010; Chambers et al. 2012; Dimson
et al. 2013) and the AP-funds (Severinson and Stewart
2012), touching on topics of SRI and the funds’ particular
duties as public asset owners. Yet, no study explicitly
analyses the performance implications of the SRI approa-
ches adopted by the GPFG and the AP-funds, especially
regarding their most prominent feature, their exclusion
On the Price of Morals in Markets: An Empirical Study of the Swedish AP-Funds and the… 667
123
policies.
5
The following section reviews the above studies
while focusing on the funds’ special relation to their ben-
eficiaries which distinguish public asset owners from other
market participants such as SRI mutual funds. We also
show that the demands from beneficiaries have been the
primary driver to adapt exclusionary screening.
As highlighted in Richardson (2011, p. 22f.), ‘‘SWFs
[such as the GPFG and other large public asset owners like
the AP-funds] resemble institutional chameleons in the
conflicting expectations they face. They operate like pri-
vate investment vehicles for maximising shareholder value,
while encumbered with public responsibilities to fulfil the
ethical policies of their state’’. In terms of their financial
objectives, both funds are expected to maximise long-term
financial returns. The GPFG is required by the Norwegian
Government to achieve a high return for the benefit of
future generations, which is widely interpreted as the duty
to maximise financial returns, within acceptable risk limits
(Bengtsson, 2008a, b; Richardson 2011; Chambers et al.
2012; Dimson et al. 2013). In fact, GPFG has achieved an
absolute return of 5.27 % per annum, i.e. a return of
0.51 % per annum in excess of its benchmark index, on its
equity investments since its inception in 1998, which
indicates that GFPG has been reasonably successful in
achieving its financial objective.
6
Similarly, in case of the
Swedish AP-funds, the National Pension Insurance Funds
Act requires them to ‘‘manage fund assets in such a manner
so as to achieve the greatest possible return’’ (cited
according to Sandberg et al. 2014).
7
As such, the financial
objectives of these funds are not different to those faced by
most private market actors. However, due to their status as
public asset owners, these funds are also obliged to fulfil
the ethical standards expected from them by the general
public. In case of the Swedish AP-funds, a legal require-
ment was introduced in 2001 that obliges the funds to
consider ethical and environmental aspects in their
investment policies and led the funds to establish a new
investment policy that involves the exclusion of companies
that are not in line with universally agreed ethical and
environmental standards (Bengtsson 2008b; Sandberg et al.
2014).
8
GPFG’s turn towards ethics started in 2002 with its
first ethically motivated divestment and resulted in GPFG’s
implementation of a range of detailed ethical guidelines
(Bengtsson 2008b; Jensen 2016b). The current version of
the ethical guidelines restricts the fund from investing in
companies that contribute to serious human rights viola-
tions, severe environmental damage, gross corruption and
other particularly serious violations of fundamental ethical
norms as well as in companies related to the production of
tobacco and controversial weapons.
While the direct reason for the funds’ move towards
ethical exclusionary screening relates to legal changes, the
governments themselves were responding to pressures
from the public that did not want to see state assets invested
in unethical business practices and thus act as accomplices
to gross, systematic breaches of ethical norms (Bengtsson
2008b). In fact, both the Swedish AP-funds and Norway’s
GPFG named the avoidance of complicity and the appeal to
public trust as main drivers for establishing their ethical
investment policies of exclusionary screening (see Sand-
berg et al. 2014, for the AP-funds, and Richardson 2011,
for the GPFG). In contrast to mutual fund investors, the
beneficiaries of the GPFG and the AP-funds do not have
the option to exit the funds, in case that they do not agree
with the funds’ investment objectives and/or are not willing
to incur potential costs of applying ethical standards (Clark
2004; Sandberg et al. 2014).
9
They are rather ‘‘locked in’’
the funds and thus, they inevitably bear any potential costs
of ethically motivated exclusionary screening. As the
ultimate beneficiaries of these funds comprise both the
state’s current population as well as future generations
(Bengtsson 2008a, b), reaching a consensus on one ethical
perspective shared by all beneficiaries is rendered difficult,
5
The only exception is an internal study by one of the Swedish
national pension funds themselves. As stated in Sandberg et al. (2014,
footnote on page 66), AP7 conducted an internal inquiry into the
performance implications of its exclusionary screening practices. The
results of this analysis suggest that the screened fund carried a
marginally higher risk than a hypothetical unscreened portfolio, but
did not show any significant difference in returns.
6
Information on the (relative) equity performance of GPFG can be
obtained via the following homepage: https://www.nbim.no/en/
transparency/reports/2015/performance-and-risk-2015/.
7
The first four AP-funds do not provide return figures on their equity
performance relative to the benchmark. The absolute equity returns
for AP1 over 2011–2015 is 6.9 % per annum, for AP2 11.1 % per
annum, for AP3 13 % per annum and for AP4 10.7 % per annum,
respectively. Compared to the 5-year return on the MSCI All Country
World index which amounts to 7.3 % per annum, all but the AP1 fund
outperformed this benchmark. AP7’s equity portfolio earned an
absolute return of 17.3 % per annum over the years 2010–2014,
which represents an average return of -0.2 % in excess of its
benchmark. Information on the AP-funds’ equity performance is
taken from the funds’ annual reports which are available via the
following homepages: for AP1 http://www.ap1.se/en/Financial-infor
mation-and-press/Reports/ , for AP2 http://www.ap2.se/en/Financial-
information/financial-reports/ , for AP3 http://www.ap3.se/sites/eng
lish/financial_reports/Pages/default.aspx , for AP4 http://www.ap4.se/
en/financial-reports-and-press/reports/ , for AP7 https://www.ap7.se/
globalassets/kiidar/kiid-ap7-aktiefond-2015-06-23.pdf.
8
While AP7 focuses only on exclusionary screening, AP1, AP2, AP3
and AP4 combine exclusionary screening with engagement and only
exclude a company after engagement has proven unsuccessful.
9
This point is also explicitly highlighted by the Graver Committee,
an expert committee that has been appointed by the Norwegian
Government to define ethical guidelines for GPFG, as ‘‘a defining
characteristic of the Fund…that a substantial proportion of those on
whose behalf the Fund is managed cannot choose its manager’’. The
English version of the Report from the Graver Committee is available
online: https://www.regjeringen.no/en/dokumenter/Report-on-ethical-
guidelines/id420232/.
668 A. G. F. Hoepner, L. Schopohl
123
if not impossible.
10
To overcome this challenge and to
assure a broad basis of support for their SRI decisions, both
the Norwegian GPFG and the Swedish AP-funds decided
to rely on national law and international standards to set out
a minimum of ethical norms that they expect all the
companies that they hold to abide to. The latter standards
comprise the UN Global Compact, the OECD Guidelines
for Corporate Governance and for Multinational Enter-
prises, labour standards set out by the International Labour
Organization, as well as conventions that ban particular
controversial weapons (Richardson 2011; Sandberg et al.
2014; Norwegian Ministry of Finance 2015).
11
Using this
principle of finding the lowest common ethical factor,
funds sought to account for their ethical obligation as
public asset owners while at the same time minimising the
financial impact to the beneficiaries of applying these
ethical standards (Sandberg et al. 2014).
Performance Effects of Exclusionary Screening
Besides the literature on Scandinavian public asset owners,
our study also contributes to the vast literature on the per-
formance impact of exclusionary screening. Arguably, the
most prominent study in this stream of the literature is by
Hong and Kacperczyk (2009). In their study, the authors find
that investing in 156 U.S. companies that operate in sectors
related to alcohol, gambling and tobacco—the so-called
triumvirate of sin—over the period 1965–2006 leads to a
positive abnormal return relative to industry-comparable
stocks. Many studies have since attempted to confirm or
disprove the original results by Hong and Kacperczyk (2009)
and have extended the original set of screens to reflect a
broader range of societal norms. For instance, studies by
Adler and Kritzman (2008), Durand et al. (2013a, b) and
Trinks and Scholtens (2015) find support for an outperfor-
mance of sin stocks in the U.S. markets, Salaber (2013) for a
European stock universe, Visaltanachoti et al. (2009) for
China and Hong Kong, and Fabozzi et al. (2008) for a set of
21 global equity markets, respectively. However, there is
also a considerable body of research that finds no or only an
insignificant outperformance of sin stocks. For instance,
Kempf and Osthoff (2007) and Statman and Glushkov
(2009) find a positive but insignificant abnormal return,
when applying six common sin screens to a U.S. stock uni-
verse over a 14-year and 16-year period, respectively. Sim-
ilarly, Lobe and Walksha
¨
usl (2011) and Adamsson and
Hoepner (2015), looking at a global and U.S. set of sin
companies, conclude that the performance of these stocks
does not significantly differ from benchmark returns. In
addition, several studies find that the extent to which inves-
tors shun sin stocks significantly varies across markets and
that markets with more restrictive social norms show a
stronger ‘‘sin’’ effect (e.g. Salaber 2013; Fauver and
McDonald 2014; Liu et al. 2014; Adamsson and Hoepner
2015).
12
One aspect that the above studies have in common is
that they test the performance implications of exclusionary
screening by applying screening criteria (e.g. based on
industry classifications) to a predefined investment universe.
Thus, they construct theoretical, and in a sense ‘‘fictive’’,
portfolios of excluded companies. ‘‘Fictive’’ as it is not clear
whether any real-world investor actually applies these exact
screens. While this approach allows dissecting the ‘‘sin’’
impact on performance, it has been criticised for neglecting
real-world investment restrictions. In particular, Adamsson
and Hoepner (2015) and Hoepner and Zeume (2014) argue
that the significant outperformance of ‘‘sin’’ stocks found in
large parts of the literature may disappear, once restricting
the investment universe to stocks that are liquid and large
enough to qualify as suitable investments for institutional
investors.
A stream of the literature that overcomes this criticism
comprises studies that analyse the performance of SRI
mutual funds that apply exclusionary screens (Barnett and
Salomon 2006; Renneboog et al. 2008b; Lee et al. 2010;
Renneboog et al. 2011; Humphrey and Lee 2011; Capelle-
Blancard and Monjon 2014; Humphrey and Tan 2014). In
10
In the Report from the Graver Committee it explicitly says that
‘‘there is no consensus on one particular uniform ethical perspective’’.
See also Richardson (2011) for a further discussion of this issue.
11
See for example the statement by the Ethical Council of AP1, AP2,
AP3 and AP4: ‘‘The Swedish Government’s core values…find
expression in those international conventions that Sweden has signed,
which include conventions on the environment, human rights, labour
law, corruption and inhumane weapons, as well as through the support
given to initiatives such as the United Nations Global Compact and
OECD guidelines for multinational companies, in addition to
Sweden’s own stance on international public law issues. In tandem
with the Swedish Government’s value system, international conven-
tions constitute essential instruments for the Ethical Council in its
efforts to ensure the AP Funds satisfactorily take into account
environmental issues and ethical dimensions in their work’’. The
statement is available online: http://etikradet.se/etikradets-arbete/
vardegrund/?lang=en. Similar references for the GPFG can be
found in the Graver Report on Ethical Guidelines and in the Report to
the Storting (Norwegian Ministry of Finance 2016).
12
Durand et al. (2013b) find that the institutional investors have
lower holdings in sin stocks in markets that are culturally closer to the
U.S. (i.e. Australia, New Zealand) than they do in markets with a
larger cultural distance to the U.S. (i.e. Japan, South Korea). Salaber
(2013) concludes that sin stocks earn higher returns in markets with a
higher share of Protestant population, compared to Catholic orienta-
tions, while Liu et al. (2014) find a lower institutional ownership of
sin stocks in regions with a higher share of Protestants. According to
Fauver and McDonald (2014), sin stocks have a lower equity
valuation in markets that consider these stocks more controversial,
and vice versa. Adamsson and Hoepner (2015) map countries
according to different cultural dimensions and find returns for sin
stocks to differ across markets, although most of these differences are
statistically insignificant.
On the Price of Morals in Markets: An Empirical Study of the Swedish AP-Funds and the… 669
123