Foundations of Climate Investing: How Equity Markets Have Priced Climate-Transition Risks

To what extent has climate risk been priced into equity markets? Is there a discount for fossil-fuel-based companies and a premium for ones that use green technology? Has this shifted over time? How can we model such risks as the world moves toward net-zero targets? In this paper, we examine the financial impact of climate-transition risk on global equity markets and find that climate has increased in importance in the last two years, with potential long-term implications for understanding market behavior. ©2021 Pageant Media. Republished with permission from the Journal of Portfolio Management, from: Giese, Guido, Nagy, Zoltán, and Rauis, Bruno. 2021. “Foundations of Climate Investing: How Equity Markets Have Priced Climate-Transition Risks.” Journal of Portfolio Management 47, no. 1 (September).

Did companies’ climate transition risk profiles affect performance? The growing strength of Low Carbon Transition (LCT) Scores provides support for this thesis (after controlling for GEMLT factors).

Cumulative Returns of the LCT Score

Data from Oct. 31, 2013, to Jan. 31, 2021.

The improved value of LCT Scores provides support that during the study period climate-transition risk had been a price driver, after controlling for traditional equity style factors. However, price impact was mainly concentrated in the most exposed LCT Categories, while there was little stock price impact in the large neutral category.