Corporate Sustainability and Risk Management—The U-Shaped Relationships of Disaggregated ESG Rating Scores and Risk in the German Capital Market

Abstract

This study addresses the relationship between the (dis)aggregated ESG rating and different types of risk (i.e., market risk, idiosyncratic risk, total risk) in the German stock market. We investigate not only the overall ESG rating and the E, S, and G pillar scores but also all the underlying category scores. Thereby, we provide in-depth insight into diverse CS operations. We cover 454 firm years (2012–2019) using ordinary least squares regression with firm and year fixed effects. Our main insights are the U-shaped relationships between CS and risk: Ecological investments first decrease systematic risk (beta), while overinvestment increases systematic risk again. Likewise, social investments initially decrease idiosyncratic risk, while overinvestment increases idiosyncratic risk again. Further findings suggest only one linkage between systematic risk and the social pillar score. In the category scores, a few more relevant linkages were identified, which indicates that disaggregation of the ESG ratings increases the explanatory power of models. In respect to findings from other capital markets, it appears that the effects of the ESG ratings on risk may depend on the existing level of sustainability in the capital market. Last, our study provides insights into the nonlinearity of the CS–risk relationships.

Saudi Green Banks and Stock Return Volatility: GLE Algorithm and Neural Network Models

“…Accordingly, investors show more interest in investing in these socially responsible institutes. This result of the negative effect of the S score on volatility is consistent with Eratalay and Ángel (2022), Engelhardt et al (2021), and Korinth and Lueg's (2022) findings that proved the significant effect of the S score on volatility. Buallay (2018) demonstrated an adverse impact on the performance of Islamic banks.…”

“…The same outcomes were proved by Engelhardt et al (2021), who found that European firms with solid ESG scores were accompanied by greater abnormal returns and less stock volatility. In addition, Korinth and Lueg's (2022) findings suggested that the level of sustainability was the main factor determining the strength of ESG's impact on the risk. Ilhan et al (2019) applied a comparison study between conventional and ESG portfolios; the results found that firms with low ESG profiles reflected in high carbon emissions faced more risk.…”

“…Garel and Petit-Romec (2021) indicated that firms with environmental issues experienced better stock returns. Both Engelhardt et al (2021) and Korinth and Lueg (2022) found that the S score was the primary driver of their results. However, findings from both Bermejo Climent et al (2021) and Aevoae et al (2022) highlighted that the G score had the most potent effect on European corporate equity performance, and Aevoae et al (2022) added that it was a tool for reducing bank interconnectedness and maintaining financial stability.…”

Sustainability, Uncertainty, and Risk: Time-Frequency Relationships

“…The second research trend examines the topic concerning corporate sustainability and risk management [20][21][22][23]. For example, reference [21] is essential for understanding the drivers of corporate sustainability within South African organizations and how they intersect with risk management.…”

“…The second research trend examines the topic concerning corporate sustainability and risk management [20][21][22][23]. For example, reference [21] is essential for understanding the drivers of corporate sustainability within South African organizations and how they intersect with risk management. It highlights the link between sustainability and long-term organizational performance, indicating that sustainability and risk management should not be treated as separate entities.…”