Pricing ESG risk in credit markets: through volatility, our conviction affirmed Federated Hermes Limited

Sustainability. We mean it.

Head of Sustainable Fixed Income, Federated Hermes Limited

Insight

15 March 2021 |

Active ESG

To analyse credit risks with greater precision, we developed a pricing model in 2017 to capture the influence of environmental, social and governance (ESG) factors on credit spreads. It showed a convincing relationship between ESG risk and credit spreads, manifesting as an ESG-risk curve.

Download

In 2018, we reinforced these findings. Today, we revisit our study, updating our results with a longer sample period to understand how the market volatility throughout 2020 affected the relationship between ESG factors and CDS spreads.

Key findings

The significant relationship between ESG factors and CDS spreads persists: companies with better ESG practices tend to have lower CDS spreads, even after controlling for credit risks.
The explanatory power of the model increased from both the 2017 and 2018 studies.
High levels of market volatility throughout 2020 did not significantly affect this relationship (a closer investigation of the relationship within 2020 is, however, warranted).