The efficiency cost of ESG investing: evidence from the Korean stock market

This paper examines the loss in expected return associated with ESG investment constraints in the Korean stock market. Using ESG ratings from the Korea Corporate Governance Service and the framework of Pedersen et al. (2021), we construct ESG-efficient frontiers and estimate the potential loss that investors could suffer by adopting ESG investment principles which limit their portfolio choice. The real-world constraints, such as minimum portfolio-level ESG score requirements and negative screening, may lead to portfolio inefficiencies of at least 9%, a loss that is economically significant for institutional investors. Our findings indicate that ESG investing cannot achieve its goals when confined to a limited set of firms and initiatives for more companies to participate in embedding ESG into their business should come together. This reinforces the argument that universal adherence to ESG investment principles is critical for successful ESG-driven value creation.