<p>This study investigates the relation between Environmental, Social, and Governance (ESG) performance and default risk of Chinese listed firms. We find that superior ESG performance is lined to reduce corporate default risk. The roles of retail and institutional investors in this relationship are examined. Results indicate that retail investor optimism mediates the ESG performance-default risk connection. The effect of ESG performance on default risk is more significant in firms with greater long-term institutional ownership compared to those with short-term institutional ownership. Importantly, we also investigate ESG performance’s long-term (five years) influence on credit risk reduction, demonstrating that ESG performance yield compounding financial stability benefits over extended periods. Cross-sectional analyses reveal that in firms with worse external operating environment (evidenced by intense industry competition and high trade policy uncertainty), this relationship is stronger. Overall, this study concludes that positive ESG performance plays a key role in lowering default risk, emphasizing the importance of investors in this link.</p>