Many of the hurdles in the way of systematic and transparent incorporation of ESG factors in credit ratings and analysis can be ascribed to how credit risk-related information is conveyed.

Transparency around the credit assessment framework has improved significantly, CRAs’ methodologies and ratings criteria are extensive, and in many jurisdictions, where CRAs are registered and regulated, they are published and publicly available.

Providing greater transparency at the rating level appears more challenging, as CRA analysis is a mix of qualitative and quantitative indicators and not the product of a spreadsheet model or flowchart. It is harder for CRAs to communicate the details of a fully integrated ESG approach compared to when working in ESG silos (i.e. non-rating ESG metrics): CRAs do not view ESG as a separate risk-factor category when it comes to creditworthiness assessment, and the more established that CRAs are at embedding these risks systematically within their assessment process (as opposed to adding a separate ESG pillar), the more challenging it is to demonstrate this integration.

Still, many investors argue that CRAs could do more on this front and believe that giving special mention to ESG factors in credit rating assessments will help market participants attach more importance to them. Others demand evidence that CRAs have considered ESG factors, or want increased CRA scrutiny to avoid double counting when conducting their own risk assessment. Separate ESG treatment helps investors to be more accountable to clients. Some demand that CRAs put explicit weights on the E, S and G factors in their methodologies. They insist that greater transparency from CRAs and explicit disclosure of ESG considerations is needed to avoid double-counting.

“It is important – given the key role of CRAs in the market and the relationship they have with issuers in particular – that CRAs use their influence to raise awareness of ESG factors. That’s why improving explicit communications in their analysis is so significant.”

BlueBay AM, Ngo

As well as integrating their ESG research into their credit analysis, investors Aberdeen produce a separate ESG score.

“Our ESG score is how we show to our clients that we are doing the work – you don’t actually need the ESG score as it is already in the rating but if it is in the rating it is very difficult to prove that you have actually done the ESG work.”

Aberdeen, Kuhn & Frings

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The ESG in Credit Ratings Initiative receives financial support from The Rockefeller Foundation

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