Is Carbon Risk Priced in the Cross-Section of Corporate Bond Returns?
Journal of Financial and Quantitative Analysis (JFQA), Forthcoming
84 Pages Posted: 24 Nov 2020 Last revised: 17 Oct 2023
Date Written: January 3, 2021
This paper examines the pricing of a firm's carbon risk in the corporate bond market. Contrary to the "carbon risk premium" hypothesis, bonds of more carbon-intensive firms earn significantly lower returns. This effect cannot be explained by a comprehensive list of bond characteristics and exposure to known risk factors. Investigating sources of the low carbon alpha, we find the underperformance of bonds issued by carbon-intensive firms cannot be fully explained by divestment from institutional investors. Instead, our evidence is most consistent with investor underreaction to the predictability of carbon intensity for firm cash-flow news, creditworthiness, and environmental incidents.
Keywords: Climate change, Carbon emissions, Corporate bond returns, ESG investing
JEL Classification: G1, G12, G14
Suggested Citation: Suggested Citation