Assessing risk profiles of ESG portfolios in global financial markets

Abstract

The incorporation of environmental, social and governance (ESG) factors into private investments is transitioning from a risk management strategy to a catalyst for innovation and novel prospects that benefits both business and society in the long run. The growing prominence of such investments necessitates a comprehensive assessment of their risk under varying market conditions. This research aims to provide a thorough analysis by examining the risk of ESG portfolios across global financial markets (categorised as developed and emerging) during distinct market regimes. The study utilises daily data of representative ESG equity portfolios from developed markets (US and Japan) as well as emerging markets (China and India). The portfolios are divided into sub-periods to accommodate the disparity between the Covid and post-Covid regimes. The study compares and contrasts the volatility patterns of all the ESG portfolios using a GJR-GARCH model that takes into consideration both the conditional variance and asymmetricity in the financial time series. Although the results reveal no clear distinction when comparing return and risk between developed and emerging markets, there is presence of varying performance across market regimes, with all the portfolios showing higher returns and lower risk during the Covid, reflecting dynamic market conditions. Additionally, the asymmetricity in volatility is more during Covid period as compared to the post-Covid period for all the portfolios. The findings provide valuable guidance to asset managers and investors seeking to mitigate portfolio risk by engaging in ESG investing.