Energy ETF performance: The role of fossil fuels

Abstract

The Principles for Responsible Investment (PRI) affected the financial markets since the year 2000. Asset managers and investors consider Exchange Traded Funds (ETFs) as a popular investment vehicle that represents a source of growth for sustainable strategies. Clean Energy ETFs (CE ETF) are funds that invest in stocks of alternative energy sectors such as solar energy, wind, hydroelectric, and geothermal companies. In 2022, CE ETF recorded a rate of return equal to 3.3% in a quarter. We investigate the role of sustainable ETFs in portfolio management analyzing features of the most capitalized ETFs over the last decade (2012–2022), distinguishing between CE ETFs and Fossil Fuel ETFs (FF ETFs). Using daily quotes, we compare the performance of various mean variance portfolios each including only CE ETFs, only FF ETFs, and a mix of the two. We show that the CE ETFs portfolio does not always provide a better risk–return trade-off, but it often beats the FF one. Given the time-varying features of the volatility of ETF returns, we use a GARCH framework and analyze the various portfolios’ performance in different sub-periods, to take into account the pandemic crisis, the Paris Agreement, and the Ukranian conflict. We find that portfolios’ performance is highly affected by i) market conditions, and ii) sustainability-related events. In addition, with respect to our observation period, we show that the exclusion of FF ETFs does not decrease the profitability of the portfolios.