Investigating the impacts of environmental, Social, and Governance (ESG) dimensions on commodity financialization using a Fourier Volatility Transmission Analysis

This study examines the evolving integration – or ‘financialization’ – of commodity and equity markets, focusing on how diversified U.S. equity mutual funds interact with both energy and non-energy commodities. We employ a Fourier Volatility Transmission Analysis to detect volatility spillovers between 1404 diversified equity funds and commodity markets. This approach is particularly adept at capturing gradual structural shifts that traditional models often miss. In the subsequent phase, we investigate whether individual fund characteristics, including ESG dimensions, influence the probability and strength of these transmissions. Our empirical findings reveal significant volatility spillovers between fund returns and commodity prices, with energy commodities exhibiting a higher degree of financialization compared to non-energy commodities. Notably, ESG criteria emerge as important determinants in shaping these interactions, though their impact on fund flows is relatively muted. These findings suggest that managers, who predominantly control returns, may be more susceptible to ESG components than investors (via flows). This possible disconnect can have significant market and policy implications. Requiring standardized and transparent ESG metrics can aid both managers and investors in understanding the impacts of ESG dimensions on volatility integrations and aligning their strategies.