Karen Ho, Green Finance Advisor of Friends of the Earth (HK)

Accessing ESG information can be overwhelming, there are thousands of datapoints and qualitative discussion in a ESG or sustainability report, which usually be over 100 pages, with many fancy editing effects and pictures, and a strong glorifying narrative of a corporate strategy and performance. There is lack of standards and inconsistency of data disclosure, investors need to find way to make sense of it and hence relies on ESG Ratings provider to give them some guidance. ESG ratings are always used by investors as an indicator to access a company’s ESG performance.

While the ESG Ratings existed for decades, with the increasing interests on ESG in the financial market, there is now more and more studies to show the divergence of ESG ratings as different ESG Raters have different views on materiality (Note 1). On the other hand, there is an increasing scrutiny on ESG raters, and regulators are getting worried about potential greenwashing by ESG rating agencies. The Board of International Organization of Securities Commissions (IOSCO) called for oversights of ESG Rating and Data Product Providers last year and suggested that regulators could consider focusing greater attention on the use of ESG ratings and data products and the activities of ESG rating and data products providers in their jurisdictions (Note 2). This could help to increase trust in ESG ratings and data going forward.

On the academic side, there is a recently published study “The Economic Impact of ESG Ratings” which examines the impact of ESG ratings on mutual fund holdings, stock returns, corporate investment, and corporate ESG practices, using panel event studies (Note 3). The results are very interesting:

  1. Looking specifically at changes in the MSCI ESG rating, the research documents that rating downgrades reduce ownership by mutual funds with a dedicated ESG strategy, while upgrades increase it.
  2. A negative long-term response of stock returns is found to downgrades and a slower and weaker positive response to upgrades.
  3. Regarding firm responses, there is no significant effect of up- or downgrades on capital expenditure.
  4. Firms adjust their ESG practices following rating changes, but only in the governance dimension.
  5. These results suggest that ESG rating changes matter in financial markets, but so far have only a limited impact on the real economy.

We should welcome all those researches, as it helps us to understand how to understand and use ESG ratings, unfortunately ESG rating upgrade/downgrade still a limited impact on the real economy.


– Note 1: Research Paper “Aggregate Confusion: The Divergence of ESG ratings”: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3438533

– Note 2: IOSCO calls for action: https://www.iosco.org/news/pdf/IOSCONEWS627.pdf

– Note 3: Researh Paper “The Economic Impact of ESG Ratings” https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4088545