Impact Investing With Shareholder Engagement

ABSTRACT In this paper, we study the impact of shareholder engagement on asset prices and corporate practices. We develop a dynamic equilibrium model where heterogeneous green investors choose their optimal asset allocation and costly engagement efforts, and a representative firm sets its greenhouse gas (GHG) emissions to minimize both its cost of capital and GHG abatement costs. Closed‐form solutions in the main case deliver three key findings. First, the investors overweight the firm if it has high emissions, especially when engagement cost is low or green preferences are strong. Second, engagement‐driven capital reallocations lower brown firms' cost of capital. Third, firms face dual mitigation pressure: they are incentivized to choose lower gross emissions and incur further cuts via investor engagement. These insights overturn standard sustainable asset‐pricing predictions and explain why shareholder engagement is an effective vector of impact for sustainable investors.