Carbon at Risk: A Value-at-Risk Approach to Carbon Removal Risk Management

Abstract

Carbon at Risk (CaR): Revolutionizing Carbon Removal Risk Assessment Through Financial InnovationAbstract

This paper introduces a groundbreaking framework for quantifying uncertainty in carbon removal projects: Carbon at Risk (CaR). Inspired by Value at Risk (VaR) methodology from financial markets, CaR provides a standardized approach to measuring and communicating carbon reversal risk across multiple time horizons. Just as VaR transformed financial risk management in the 1990s, CaR has the potential to revolutionize the rapidly growing carbon removal industry by creating a universal "language of risk."

In an industry projected to reach $1 trillion annually, the lack of standardized risk metrics has created significant barriers to scaling carbon removal solutions. This paper presents a novel solution by introducing four temporal risk buckets (1, 10, 100, and 1000 years) with associated confidence intervals, allowing stakeholders to quantify expected carbon losses in kilograms per metric ton removed. This innovation enables precise risk assessment, efficient capital allocation, and the development of new financial instruments like insurance and derivatives.

Drawing on real-world examples from biochar and forestry projects, we demonstrate how CaR can transform abstract carbon risks into concrete, actionable metrics. This standardization has profound implications for project developers, investors, insurers, and regulators as they work to scale carbon removal solutions to meet climate challenges.

Keywords: Carbon at Risk (CaR), Value at Risk (VaR), Risk Management, Carbon Removal, Carbon Emissions, Normalization, Temporal Buckets, Confidence Level, Median Expected Loss, Correlation Matrices, Biochar, Direct Air Capture (DAC), Investors, Regulators, Insurers, climate finance, environmental finance, carbon markets

JEL Classification: Q54, Q58, G22, G32, C51, Q51, O44, Q32, Q56