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Although ESG issues are a leading topic of conversation in the financial markets, the differences between sustainability factors and ESG credit factors are often confused. While the focus has primarily been on how companies can affect the world, less focus has been on how conditions in the world affect companies. Broadly, ESG investment strategies involve explicitly considering the environmental, social, and governance issues facing companies and incorporating them into the investment decision-making process. A primary motivation investors have in focusing on such issues is to reflect personal values they hold to prompt companies to operate ethically and sustainably. Another is to adequately address and mitigate companies’ ESG related financial risks, such as climate change.
As a credit rating agency, DBRS Morningstar evaluates the impact that these financial risks can have on the creditworthiness of a company. Although there can be areas of overlap between sustainability and company/financial risks, it is important for investors to be clear about the difference between them, particularly when the benefits and costs are unevenly distributed among corporate issuers. The purpose of this commentary is to clarify these two concepts.