Many social scientists believe that social norms are important in shaping economic behavior and market outcomes, overriding at times even the profit motive. The authors find that a societal norm exists against funding operations that promote vice and that some investors are willing to pay a financial cost to abstain from these stocks. Consequently, sin stocks are less widely held and tend to be relatively cheap when benchmarked against comparables. A key issue in the literature on socially responsible investing is whether it causes corporations to change their behavior. The authors show that for sin stocks, the neglect by large institutions significantly affects their cost of capital.
The Price of Sin: The Effects of Social Norms on Markets
I. Introduction
In this paper, Harrison Hong and Marcin Kacperczyk analyze the effects of social norms on markets by studying sin stocks i.e. publicly traded companies engaged in producing alcohol, tobacco and gaming. Due to the societal norm against funding operations that promote human vice, many investors steer away from supporting these companies by investing in their stocks.
II. Background on and Selection of Sin Stocks
The authors deduce that the three products namely tobacco, alcohol and gaming are viewed as sinful by individuals and social groups owing to their addictive qualities and unfavorable social consequences when consumed extremely.
III. Data
The authors illustrate their data collected of these stocks.
A. Variables in Ownership Regressions
The data provides the shares of company owned by institutions such as banks, insurance companies, mutual funds, independent investment advisors including hedge funds and others (including universities, pension plans, and employee ownership plans).
B. Variables in Analyst Coverage Regressions
The data provides the analyst estimates of earnings issued on a stock at various points in time (usually quarterly).
C. Variables in Time-Series Return Regressions
The authors compare the data of various portfolio returns of sin stocks; stocks of industries such as soda, food, meals & hotels and fun; small stocks; large stocks; etc.
D. Variables in Cross-Sectional Return Regressions
The monthly returns of sin stocks are shown.
E. Variables in Price-to-Book Regressions
The author measure the market-to-book ratio of the firm by calculating the firms yearly equity returns.
F. Variables in Corporate Financing Decision Regressions
The authors calculate the total debt, market leverage, cash, dividend payout, repurchases, market value of equity, tangible assets and profit of a firm.
IV. Results
A. Institutional Ownership
The authors infer that the sin stocks are less held by institutions that are pressurized by social norms. Pension funds, universities, religious organizations, banks, and insurance companies are less willing to retain sin stocks; whereas sin stocks are likely to be held by mutual funds, hedge funds and independent investment advisors if they are ignored and priced cheaply.
B. Analyst Coverage
Sin stocks are less followed by analysts since they are mature companies that rarely indulge in financing through equity issuance.
C. Implications for Stock Prices
The authors study the return performance of sin stocks and surmise that sin stocks outperform other comparable stocks.
D. Robustness Checks and Calibrations
The authors check the robustness of their results.
E. Further Tests
The authors examine the price effects of social norms on sin stocks and on the financing decisions of sin companies.
V. Conclusion
The authors conclude that there is societal norm against funding sin companies and therefore, many investors including institutions pay a financial price for not holding these stocks. Consequently, sin stocks have less institutional ownership and less analyst coverage than the other comparable stocks. However, mutual funds and hedge funds are willing to hold these stocks. The authors deem that these stocks outperform other comparable stocks. Thus, social norms have vital consequences in the stock market and in markets in general.