News release

From: Murdoch University

A new study from Murdoch University has found that Environmental, Social and Governance (ESG) downgrades trigger significantly larger share price losses when they come as a surprise to optimistic investors.

Globally, ESG investing has grown significantly, with investors increasingly considering the sustainability performance of firms when allocating capital.

As a result, ESG scores have become an important measure for investors when assessing risk.

Previous research has shown that declines in ESG ratings are often associated with falls in company share prices.

“However, this market reaction is not uniform,” said lead author, Dr Phu Ngoc Tran, Lecturer at the Murdoch Business School.

"We wanted to investigate whether investor sentiment towards a firm influenced how the market reacted to ESG rating changes," he said.

The research team analysed ESG rating changes across S&P 500 companies between 2010 and 2024, examining more than 6,700 ESG rating events and their impact on share prices.

They then measured investor sentiment using company-specific news and social media data, and separated sentiment into five categories: positive, negative, risk, volatility, and management-related sentiment.

The main finding of the study was that investors react more strongly to ESG downgrades when they were previously optimistic about a firm’s prospects.

"What surprised us was that positive sentiment had a much greater influence than other forms of investor sentiment, such as fear, risk, or concerns about a firm’s management,” said co-author, Dr Ariful Hoque, from the Murdoch Business School.

"Investors appear to punish ESG downgrades most severely when they contradict an otherwise positive view of the firm."

The effect was strongest among larger firms and those with strong ESG track-records.

“Large companies and those with strong ESG reputations appear to have the most to lose from an ESG downgrade, as these firms attract greater investor attention and higher expectations," Dr Hoque said.

Dr Tran said the study has implications for both companies and investors.

"For companies, the findings highlight the importance of protecting both ESG performance and the trust investors place in their sustainability credentials," he said.

"Firms that have built a strong ESG reputation should not assume they are insulated from market risk. In fact, our research suggests they may face a stronger market backlash if their ESG performance deteriorates."

"For investors, it is important to consider both ESG rating changes and the sentiment surrounding a firm," Dr Tran said.

"Our findings show that the same ESG downgrade can have very different market impacts depending on investor expectations at the time."

The paper, Which investor sentiment drives the ESG–return link? A multi-dimensional sentiment perspective on ESG changes, was published in the International Review of Economics & Finance.

The research was also co-authored by Dr Thi Le from the Murdoch Business School.