Are CSR Expenditures Affected by Investor Sentiment?

We use differences in market-to-book ratios between high and low corporate social responsibility (“CSR”) firms as a proxy for time-varying investor sentiment for CSR initiatives. We first validate this measure by documenting positive abnormal returns to CSR announcements during periods when investor sentiment is relatively high. We then provide evidence that firms respond to investor sentiment by showing that CSR expenditures are higher during periods when investor sentiment is high. This response is stronger for firms with more powerful incentives to respond to investor sentiment due to the investment horizon of the firm and the firm’s shareholders. Additional tests show that future stock returns are lower for firms that respond to investor sentiment, suggesting that CSR activities chosen in response to investor sentiment did not increase long-term shareholder value. Our results provide new insights into our understating of the dramatic increase in CSR-related activities over the last several years. We also extend the behavioral finance literature by showing that managers may undertake costly real actions, such as shifting capital investments toward CSR projects, in order to boost the firm’s short-term stock price.