Purpose

Investors' risk perception outlines their return expectations, which in turn shape the cost of equity that borrowers must bear. As sustainability factors are increasingly incorporated into banks' risk-assessment frameworks, this study investigates how banks' ESG performance impact their cost of equity, as well as the impact at different levels of cost. Additionally, it examines whether stock return volatility moderates this relationship.
Design/methodology/approach

The dataset constitutes a balanced panel of 163 banks from G20 economies spanning a period from 2011 to 2023. The study employs fixed effects regression and Method of Moments Quantile regression (MM-QR) methodologies.
Findings

ESG performance effectively reduces banks' cost of equity capital. This impact becomes even more pronounced when the baseline cost of equity is low. Furthermore, the study provides evidence that ESG improvements produce an additional reduction in the cost of equity for banks with high stock return volatility. ESG performance also significantly lowers the cost of equity in advanced economies; however, no additional benefit is observed during periods of economic upturn or the COVID 19 pandemic.
Practical implications

The study is relevant to bank executives who can leverage actionable inputs to drive ESG strategies, especially those experiencing heightened stock return fluctuations. Credit analysts and risk professionals may also embed ESG factors into their credit assessment and valuation models. Moreover, regulators gain insights for integrating ESG dimensions into macro- and micro-prudential frameworks.
Originality/value

This is the first study to examine the impact of ESG performance across varying levels of cost of equity. Furthermore, the research confirms the moderating role of stock return volatility in the relationship between ESG performance and cost of equity. The analysis also differentiates between macroeconomic environments, specifically upturn and downturn periods.