The correlation between ESG and CDS spreads

Countries that score highest on ESG issues benefit from tighter credit default swap (CDS) spreads, according to new research from the Credit and Responsibility teams at Hermes Investment Management and the Macroeconomic Research team at Beyond Ratings.

Pricing ESG Risk in Sovereign Credit examines the relationship between ESG risks in sovereigns and their relative credit spreads and found that in addition to ESG in general, governance has the strongest relationship with CDS spreads.

Mitch Reznick, CFA, head of credit research and sustainable fixed income, Hermes Investment Management, said: “We believe that the integration and pricing of ESG and engagement information into the sovereign investment space will add further precision into the analysis of risk and ultimately make more informed investment decisions.”

In 2017, Hermes published Pricing ESG Risks in Credit Markets, examining the relationship between a company’s quantitative ESG (QESG) score and credit default swaps (CDS).This study was replicated and expanded in 2018 in Pricing ESG Risk in Credit Markets reinforcing the conclusions.

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