Ask BERT: How Regulatory Disclosure of Transition and Physical Climate Risks affects the CDS Term Structure

Swiss Finance Institute Research Paper No. 21-19

Journal of Financial Econometrics, forthcoming

55 Pages Posted: 15 Jul 2020 Last revised: 6 Jul 2022

See all articles by Julian F Kölbel

Julian F Kölbel

University of St. Gallen - School of Finance; MIT Sloan; Swiss Finance Institute

Markus Leippold

University of Zurich; Swiss Finance Institute

Jordy Rillaerts

University of Zurich - Department of Finance; Swiss Finance Institute

Qian Wang

University of Zurich - Department Finance; Inovest Partners AG

Date Written: June 1, 2020

Abstract

We use BERT, an AI-based algorithm for language understanding, to quantify regulatory climate risk disclosures and analyze their impact on the term structure in the credit default swap (CDS) market. Risk disclosures can either increase or decrease CDS spreads, depending on whether the disclosure reveals new risks or reduces uncertainty. Training BERT to differentiate between transition and physical climate risks, we find that disclosing transition risks increases CDS spreads after the Paris Climate Agreement of 2015, while disclosing physical risks decreases the spreads. In addition, we also find that the election of Trump had a negative impact on CDS spreads for firms exposed to transition risk. These impacts are consistent with theoretical predictions and economically and statistically significant.

Keywords: climate risk disclosure, CDS spreads, 10-K filings, physical risks, transition risks, BERT model.

JEL Classification: G13, G28, M48

Suggested Citation

Kölbel, Julian and Leippold, Markus and Rillaerts, Jordy and Wang, Qian, Ask BERT: How Regulatory Disclosure of Transition and Physical Climate Risks affects the CDS Term Structure (June 1, 2020). Swiss Finance Institute Research Paper No. 21-19, Journal of Financial Econometrics, forthcoming, Available at SSRN: https://ssrn.com/abstract=3616324 or http://dx.doi.org/10.2139/ssrn.3616324

Julian Kölbel

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St. Gallen, 9000
Switzerland

MIT Sloan ( email )

100 Main Street
Cambridge, MA 02142
United States

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

Markus Leippold (Contact Author)

University of Zurich ( email )

Rämistrasse 71
Zürich, CH-8006
Switzerland

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

Jordy Rillaerts

University of Zurich - Department of Finance ( email )

Plattenstr 32
Zurich, 8032
Switzerland

HOME PAGE: http://https://www.bf.uzh.ch/en/persons/rillaerts-jordy

Swiss Finance Institute

c/o University of Geneva
40, Bd du Pont-d'Arve
Geneva
Switzerland

HOME PAGE: http://https://www.sfi.ch/en/people/jordy-rillaerts

Qian Wang

University of Zurich - Department Finance ( email )

Schönberggasse 1
Zürich, 8001
Switzerland

Inovest Partners AG ( email )

Grabenstrasse 25
Baar, 6340
Switzerland

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