The Sovereign Risk Amplifies ESG Market Extremes: A Quantile-Based Factor Analysis

Oscar Walduin Orozco-Cerón (), Orlando Joaqui-Barandica and Diego F. Manotas-Duque
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Oscar Walduin Orozco-Cerón: School of Industrial Engineering, Universidad del Valle, Cali 760001, Colombia
Orlando Joaqui-Barandica: School of Industrial Engineering, Universidad del Valle, Cali 760001, Colombia
Diego F. Manotas-Duque: School of Industrial Engineering, Universidad del Valle, Cali 760001, Colombia

Risks, 2025, vol. 13, issue 12, 1-23

Abstract: This study examines how sovereign risk shapes the financial performance of sustainable investments, using the MSCI Emerging Markets ESG Index as a reference. The analysis covers 24 emerging and frontier economies from Latin America, Asia, the Middle East, and Eastern Europe during 2016–2025, a period marked by major global disruptions such as the COVID-19 crisis and post-2022 financial tightening. Sovereign risk dimensions are extracted through Principal Component Analysis (PCA) applied to sovereign CDS spreads, identifying a systemic component linked to global shocks and a structural component associated with domestic fundamentals and governance quality. These factors are integrated into a quantile regression framework alongside control variables—oil prices, interest rates, and global equity indices—capturing key macro-financial transmission channels. Results show a nonlinear, quantile-dependent relationship: systemic risk intensifies ESG losses under adverse conditions, while structural improvements support gains in upper quantiles. Control variables behave as expected, confirming the macro-financial sensitivity of ESG performance. The findings reveal that ESG returns are state-dependent and strongly influenced by sovereign credit dynamics, especially in emerging markets where external shocks and institutional fragility intersect. Strengthening sovereign governance and integrating risk diagnostics into ESG assessments are essential steps to enhance resilience and credibility in sustainable finance.

Keywords: sovereign risk; ESG; sustainability; quantile regression; emerging markets (search for similar items in EconPapers)
JEL-codes: C G0 G1 G2 G3 K2 M2 M4 (search for similar items in EconPapers)
Date: 2025
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