ESG as Protection against Downside Risk

Center for Financial Studies Working Paper No. 708, 2023

56 Pages Posted: 26 Jan 2023 Last revised: 13 Apr 2023

See all articles by Roman Kräussl

Roman Kräussl

Universite du Luxembourg - Department of Finance; Hoover Institution, Stanford University

Tobi Oladiran

Université du Luxembourg

Denitsa Stefanova

Universite du Luxembourg

Date Written: January 23, 2023

Abstract

We examine whether the uncertainty related to environmental, social, and governance (ESG) regulation developments is reflected in asset prices. We proxy the sensitivity of firms to ESG regulation uncertainty by the disparity across the components of their ESG ratings. Firms with high ESG disparity have a higher option-implied cost of protection against downside tail risk. The impact of the misalignment across the different dimensions of the ESG score is distinct from that of ESG score level itself. Aggregate downside risk bears a negative price for firms with low ESG disparity.

Keywords: ESG, rating, downside risk, options, regulation, risk premium

JEL Classification: G12, G18, G32

Suggested Citation

Kraeussl, Roman and Oladiran, Tobi and Stefanova, Denitsa, ESG as Protection against Downside Risk (January 23, 2023). Center for Financial Studies Working Paper No. 708, 2023, Available at SSRN: https://ssrn.com/abstract=4335850 or http://dx.doi.org/10.2139/ssrn.4335850

Roman Kraeussl

Universite du Luxembourg - Department of Finance ( email )

L-1511 Luxembourg
Luxembourg

Hoover Institution, Stanford University ( email )

Stanford, CA 94305
United States

Tobi Oladiran (Contact Author)

Université du Luxembourg ( email )

L-1511 Luxembourg
Luxembourg

Denitsa Stefanova

Universite du Luxembourg ( email )

L-1511 Luxembourg
Luxembourg

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