Climate Regulatory Risks and Corporate Bonds

Abstract

Concerns about climate risk suggest it should aect risk assessment and pricing of corporate

securities, particularly for rms facing potential regulatory restrictions. Employing a shock to

expected climate regulations, we nd support for this hypothesis given our evidence that climate

regulatory risks causally aect bond credit ratings and yield spreads. Moreover, a structural

credit model indicates the increased spreads for high carbon issuers, especially those located

in stricter regulatory environments, derive from changes in rms' asset volatilities rather than

asset values, highlighting that regulatory uncertainty aects security pricing. The results have

important implications for corporate decisions, portfolio management, and policymaking.

Keywords: Climate Risk, Regulatory Risk, Fixed Income, carbon emissions, environmental policy, corporate bonds

JEL Classification: G38, G24, G00