The hidden cost of ESG ratings divergence: implications for asset pricing and corporate cost of capital in the EU

This study investigates the implications of Environmental, Social, and Governance (ESG) ratings divergence on asset pricing and corporate cost of capital among European listed firms. It addresses the extent to which inconsistent ESG scores across major rating agencies distort market signals, increase uncertainty, and potentially raise the cost of equity for firms. Using a panel dataset of companies listed in the STOXX Europe 600 index from 2018 to 2024, I empirically assess how ESG rating dispersion impacts valuation, volatility, and investor behavior. I exploit the introduction of the Sustainable Finance Disclosure Regulation (SFDR) in 2021 as a natural experiment to evaluate whether regulatory harmonization reduces the adverse effects of ratings inconsistency. The results provide novel insights into the role of ESG transparency in capital markets and offer implications for investors, policymakers, and corporate managers.