The paper "Sustainable Investing in Equilibrium" by Lubos Pastor, Robert F. Stambaugh, and Lucian A. Taylor models the impact of environmental, social, and governance (ESG) criteria on asset prices and corporate behavior. The authors analyze both financial and real effects of sustainable investing through an equilibrium model that features heterogeneous firms and agents. Key findings include: 1. **Asset Prices and Returns**: Green assets have negative CAPM alphas because investors enjoy holding them and they hedge climate risk. However, green assets outperform when ESG concerns strengthen unexpectedly, boosting their returns relative to brown assets. 2. **ESG Factor**: The ESG factor, which captures shifts in customers' and investors' tastes for ESG criteria, prices assets in a two-factor model alongside the market portfolio. The ESG factor has a negative premium, reflecting investors' ESG tastes. 3. **ESG Investment Industry**: The size of the ESG investment industry depends on the dispersion in investors' ESG tastes. The industry is largest when ESG tastes are most dispersed. 4. **Social Impact**: Sustainable investing leads to positive social impact by making firms greener and shifting real investment towards green firms. This results in increased social impact even if shareholders do not engage with management. 5. **Climate Risk**: The model extends to include climate risk, where brown assets have higher climate betas and thus higher expected returns if climate concerns strengthen unexpectedly. 6. **Quantitative Implications**: The authors calibrate the model with two types of investors: ESG investors and non-ESG investors. They find that ESG investors earn lower expected returns but enjoy an "investor surplus" due to the market adjusting to their ESG tastes. The paper provides a theoretical framework for understanding the dynamics of sustainable investing and its broader economic implications.The paper "Sustainable Investing in Equilibrium" by Lubos Pastor, Robert F. Stambaugh, and Lucian A. Taylor models the impact of environmental, social, and governance (ESG) criteria on asset prices and corporate behavior. The authors analyze both financial and real effects of sustainable investing through an equilibrium model that features heterogeneous firms and agents. Key findings include: 1. **Asset Prices and Returns**: Green assets have negative CAPM alphas because investors enjoy holding them and they hedge climate risk. However, green assets outperform when ESG concerns strengthen unexpectedly, boosting their returns relative to brown assets. 2. **ESG Factor**: The ESG factor, which captures shifts in customers' and investors' tastes for ESG criteria, prices assets in a two-factor model alongside the market portfolio. The ESG factor has a negative premium, reflecting investors' ESG tastes. 3. **ESG Investment Industry**: The size of the ESG investment industry depends on the dispersion in investors' ESG tastes. The industry is largest when ESG tastes are most dispersed. 4. **Social Impact**: Sustainable investing leads to positive social impact by making firms greener and shifting real investment towards green firms. This results in increased social impact even if shareholders do not engage with management. 5. **Climate Risk**: The model extends to include climate risk, where brown assets have higher climate betas and thus higher expected returns if climate concerns strengthen unexpectedly. 6. **Quantitative Implications**: The authors calibrate the model with two types of investors: ESG investors and non-ESG investors. They find that ESG investors earn lower expected returns but enjoy an "investor surplus" due to the market adjusting to their ESG tastes. The paper provides a theoretical framework for understanding the dynamics of sustainable investing and its broader economic implications.