Damodaran makes two key points with particular elegance. One is that, in equilibrium, the insistence that ESG portfolios can outperform non-ESG portfolios makes no sense: “The notion that adding an ESG constraint to investing increases expected returns is counter intuitive. After all, a constrained optimum can, at best, match an unconstrained one, and most of the time, the constraint will create a cost.”

Next, he fleshes out the important point (also made here) that ESG attributes can only drive outperformance in transition periods, where investors’ preferences are changing. Thereafter, cost of capital differentials must mean underperformance: “During the adjustment period the highly rated ESG stocks will outperform the low ESG stocks, as markets slowly incorporate ESG effects, but that is a one-time adjustment. Once prices reach equilibrium, highly rated ESG stocks will have greater values, but investors will have to be satisfied with lower expected returns.”