Responsible Hedge Funds*

Hedge funds that endorse the United Nations Principles for Responsible Investment (PRI) underperform other hedge funds after adjusting for risk but attract greater investor flows, accumulate more assets, and harvest greater fee revenues. Consistent with an agency explanation, the underperformance is driven by PRI signatories with low environmental, social, and governance (ESG) exposures and is greater for hedge funds with poor incentive alignment. To address endogeneity, we exploit regulatory reforms that enhance stewardship and show that the ESG exposure and relative performance of signatory funds improve post reforms. Our findings suggest that some hedge funds endorse responsible investment to pander to investor preferences.

Automated summary

Hedge funds endorsing the United Nations Principles for Responsible Investment (PRI) underperform compared to other hedge funds when adjusting for risk, but attract more investors and accumulate more assets and fees. This underperformance is mainly driven by PRI signatories with low environmental, social, and governance (ESG) exposures, and is more significant for funds with poor incentive alignment. Regulatory reforms that enhance stewardship improve the ESG exposure and relative performance of signatory funds, suggesting that some hedge funds endorse responsible investment to cater to investor preferences.